2020-08-05 Last Update: 2021-08-06 Shared Research Inc

Coverage initiated on: 2020-08-05 Research Coverage Report by Shared Research Inc. Last update: 2021-08-06

3656 KLab

Shared Research Inc. has produced this report by request from the company discussed in the report. The aim is to provide an “owner’s manual” to investors. We at Shared Research Inc. make every effort to provide an accurate, objective, and neutral analysis. In order to highlight any biases, we clearly attribute our data and findings. We will always present opinions from company management as such. Our views are ours where stated. We do not try to convince or influence, only inform. We appreciate your suggestions and feedback. Write to us at [email protected] or find us on Bloomberg. INDEX

Executive summary ...... 3. Key financial data ...... 5. Recent updates ...... 6. Trends and outlook ...... 8. . Business ...... 1.8. Business overview ...... 1.8. Earnings model ...... 2.9. Strengths and weaknesses ...... 3. .4. Group companies ...... 3.5. Market and value chain ...... 3.5. Historical performance ...... 4.3. Income statement ...... 5.4. Balance sheet ...... 5.5. Cash flow statement ...... 5.7. Other information ...... 5. .8. News and topics ...... 6. .2. Company profile ...... 6.4.

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 2 Executive summary Business overview

Business description: KLab Inc. plans, develops, and operates mobile games*1. The majority of the company’s revenue and profits comes from the Game business, which accounted for 98.9% of total revenue and 97.7% of gross profit in FY12/20. With FY12/20 revenue of JPY34.0bn, KLab is a medium-sized specialist company compared with industry leader Mixi, which logged a segment revenue of JPY100.6bn in its Digital Entertainment business in FY03/21.

Characteristics of KLab’s games: The most popular games of competitors GungHo Online Entertainment, Inc. (TSE1: 3765) and Mixi, Inc. (TSE1: 2121) are based on their own intellectual property (IP). In contrast, KLab’s mainstay games are based on existing IPs from anime and manga. Although the company’s mainstay games vary in genre (sports, rhythm action, and action RPG), they share elements in common: each captures the feeling of the world of its respective IP, each includes rare characters that can be developed by the player, and each allows the player to form teams from multiple characters. Many mobile games fail to generate revenue despite being based on well-known anime or manga. Simply being fun to play is not enough to guarantee commercial success—games need to have mechanisms that encourage players to make in-game purchases. Shared Research thinks KLab has become highly accomplished at encouraging players to spend on games. The company has leveraged its years of experience in developing and operating collectible card games since they boomed in popularity in the early 2010s to incorporate elements of collecting and training rare characters into its games in clever ways.

Mainstay games: The company’s mainstay games are sports simulation Captain Tsubasa: Dream Team (hereafter Captain Tsubasa), action RPG BLEACH: Brave Souls, rhythm action game Love Live! School Idol Festival (hereafter Love Live! School Fest), rhythm action RPG Love Live! School Idol Festival All Stars (hereafter Love Live! All Stars) (see “Business”). These four titles account for the majority of Game business revenue. Competitors are highly reliant on a single game to drive results: 55.2% of GungHo Online Entertainment’s FY12/19 revenue came from its puzzle RPG Puzzle & Dragons, and over 60% of Mixi’s FY03/19 revenue came from its co-op RPG Monster Strike. KLab’s earnings, by contrast, are diversified across multiple games and therefore not easily affected by the potential decline of any single one.

High overseas revenue ratio: KLab’s games are basically free to play. However, many players purchase in-game currency to use on gacha*2 to help them progress through the game. The resulting revenue is the company’s main source of income. In FY12/20, KLab’s overseas revenue composition ratio was 34.9%. The company plans, develops, and operates games based on Japanese anime and manga that are well known overseas. It also develops games with the intention of releasing them overseas as well as in Japan, and is thus able to release global versions of its games at nearly the same time as the Japanese versions, which boosts overseas revenue. Developing games under the assumption of releasing them in both Japan and overseas also helps to curb overall development costs.

Revenue, number of users, average spend: Revenue per game = monthly active users (MAU) × conversion rate (ratio of paying users to MAU) × average revenue per paying user (ARPPU; average monthly revenue for one player). The company says it cannot present average values for each KPI because they fluctuate even for the same game due to seasonal events and campaigns. ARPPU in particular can range widely, occasionally swinging from several thousand yen to as much as tens of thousands of yen.

Costs and expenses: The cost of revenue ratio was 79.4% in FY12/20. Royalties paid to IP rights holders and commissions (platform fees) paid to platform operators (app stores) form the main component in cost of revenue. Royalties and commissions are variable costs, typically around 50% of revenue, and account for over 60% of cost of revenue. The remaining 40% of cost of revenue comprises fixed costs such as labor and outsourcing. The SG&A-to-revenue ratio is roughly 20%, with SG&A expenses mainly comprising salaries and allowances and advertising expenses. Salaries and allowances are mostly fixed costs while advertising expenses are mostly variable owing to performance-based advertising and the company’s ability to adjust the advertising budget according to revenue. The advertising expense-to-revenue ratio hovers around 7%.

Investment in new games (software): According to FY12/19 results, large in-house titles such as Love Live! All Stars and Tales of Crestoria take about two years to develop and call for approximately JPY1.0bn–JPY2.0bn in upfront spending. Games are recorded as software (intangible fixed assets) at the time of release, and are amortized over two years using the straight- line method. KLab aims to rein in game production costs by promoting joint development with external development companies, narrowing its focus to genres such as rhythm action, action RPG, and sports that have produced a hit in the past, and standardizing basic app functions through the development of a common structure.

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 3 Earnings trends

In FY12/20, revenue was JPY34.0bn (+9.1% YoY), operating profit was JPY2.1bn (+28.4% YoY), recurring profit was JPY1.6bn (-3.7% YoY), and net income attributable to owners of the parent was JPY767mn (+99.9% YoY). Total revenue rose on growth in revenue from existing games. Gross profit fell YoY as a decline in transfer to other accounts outweighed sales growth, but operating profit grew on lower SG&A expenses.

KLab lowered its full-year FY12/21 company forecast at the time of its 1H FY12/21 earnings announcement (August 2021). The company’s revised forecast calls for revenue of JPY25.5bn to JPY28.5bn (-24.9% to -16.1% YoY), operating loss of JPY1.6bn to operating profit of JPY1.0bn (versus operating profit of JPY2.1bn in FY12/20), recurring loss of JPY1.5bn to recurring profit of JPY1.1bn (versus recurring profit of JPY1.6bn), and net loss attributable to owners of the parent of JPY2.0bn to net income attributable to owners of the parent of JPY20mn (versus net income of JPY767mn in FY12/20). The company revised its forecast downward in May 2021 as revenue for Love Live! All Stars and Tales of Crestoria fell short of plan, but revenue for Love Live! All Stars failed to recover in Q2, and the falloff in revenue from BLEACH: Brave Souls exceeded company expectations.

Along with the FY12/20 results, the company unveiled its medium-term management plan, which targets FY12/23 revenue of JPY50.0bn (up 47.3% from FY12/20) and operating profit of JPY10.0bn (+365.2%). The company aims to grow earnings through stable management of existing titles while growing revenue and profit from new titles. Over the course of the plan, it also intends to secure new sources of earnings other than conventional game development and operations, such as through casual games and overseas game development support. Strengths and weaknesses

Shared Research sees the company’s strengths as: 1) its practice of developing games based on popular IPs, 2) its ability to profitably operate games over a long period of time, and 3) its excellent overseas expansion capability. We see KLab’s weaknesses as: 1) the need to shoulder a greater burden than competitors when developing new games due to its relatively small revenue, 2) reluctance to take risks to produce blockbusters, and 3) a lack of proven ability in developing games based on proprietary IPs. (See “Strengths and weaknesses” for details.)

*1Mobile games: Most mobile games are free to play. However, players can pay to roll gacha (electronic lottery) to acquire rare characters and items that will help them progress through the game in an advantageous manner. Revenue earned through gacha is the main source of revenue for game operating companies. Players who pay to roll gacha are a small subset of total players. Game companies make use of player psychology to increase their willingness to spend on games, including the desire to collect rare characters, attachment to the characters they develop in the game, and desire to perform well in ranked competition with other players. In addition, companies can use the mobile game interface to add content that keeps players interested, such as by delivering large-scale updates, holding limited-time events, and providing limited-time missions. *2Gacha: A mechanism in mobile games by which users can obtain in-game items or characters that are randomly selected for them. The use of the term gacha in this sense is an extension of its original use to refer to toy vending machines (where the user does not know what toy they will get). The word “gacha” is said to sound like the noise these vending machines make. Players use in-game currency purchased with real money to roll gacha. For example, in one of the company’s mainstay games, Captain Tsubasa, players can roll gacha to acquire characters for a cost of five “Dreamballs” (the in-game currency). Dreamballs are JPY120 each, but are more cost-effective the more a player purchases at a time, costing as little as JPY57 each when purchased at the bulk-buy limit of 175. By setting the probability of getting rare items and characters through gacha at a low level, game operating companies encourage players to roll gacha multiple times, thereby increasing their opportunities to earn revenue. Scale of mobile game market: According to the JOGA Online Game Market Research Report 2020, the size of the mobile game market in Japan in 2019 was JPY1.4tn (+3.3% YoY).

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 4 Key financial data

Income statement FY08/11 FY08/12 FY12/13 FY12/14 FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 FY12/21 (JPYmn) Par. Par. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Est. Revenue 5,665 15,210 20,993 21,375 20,913 19,600 26,778 32,674 31,110 33,952 27,000~32,000 YoY 91.8% 168.5% - 1.8% -2.2% -6.3% 36.6% 22.0% -4.8% 9.1% -20.5%~-5.8% Gross profit 2,279 5,830 4,835 6,862 6,714 5,192 9,565 10,549 7,031 6,992 YoY 95.2% 155.8% - 41.9% -2.2% -22.7% 84.2% 10.3% -33.4% -0.5% Gross profit margin 40.2% 38.3% 23.0% 32.1% 32.1% 26.5% 35.7% 32.3% 22.6% 20.6% Operating profit 962 2,811 -1,224 2,164 2,198 1,275 4,891 4,995 1,674 2,149 -500~1,800 YoY 538.7% 192.3% - - 1.6% -42.0% 283.7% 2.1% -66.5% 28.4% - Operating profit margin 17.0% 18.5% - 10.1% 10.5% 6.5% 18.3% 15.3% 5.4% 6.3% - Recurring profit 951 2,820 -942 2,564 1,919 830 4,854 4,998 1,626 1,565 -300~2,000 YoY 624.0% 196.4% - - -25.1% -56.7% 484.5% 3.0% -67.5% -3.7% - Recurring profit margin 16.8% 18.5% - 12.0% 9.2% 4.2% 18.1% 15.3% 5.2% 4.6% - Net income 550 1,623 -2,564 1,793 700 -814 3,127 2,570 384 767 -1,300~200 YoY 162.4% 195.0% - - -60.9% -216.2% -484.1% -17.8% -85.1% 99.9% - Net margin 9.7% 10.7% - 8.4% 3.3% -4.2% 11.7% 7.9% 1.2% 2.3% - Per-share data (split-adjusted; JPY) Shares issued ('000) 4,681 26,050 33,059 37,292 37,798 37,946 38,288 37,696 38,172 38,475 EPS 23.51 63.78 -93.58 52.15 19.26 -22.26 84.89 69.03 10.20 20.08 -33.71~5.19 EPS (fully diluted) - 59.11 - 50.21 18.86 0.00 81.34 66.59 10.02 19.89 Dividend per share ------9.00 - - - - Book value per share 55.77 119.36 124.07 249.71 269.26 248.50 337.21 387.36 406.91 430.74 Balance sheet (JPYmn) Cash and cash equivalents 721 1,862 4,518 7,250 4,852 4,661 6,695 4,749 8,298 8,618 Total current assets 2,113 4,122 6,868 10,516 8,480 7,918 11,771 9,246 13,822 13,728 Tangible fixed assets 44 263 300 216 308 302 313 394 450 274 Investments and other assets 263 955 908 1,214 2,424 2,633 3,035 4,489 5,270 6,720 Intangible assets 99 51 621 785 1,422 1,281 3,491 5,117 4,128 2,769 Total assets 2,519 5,391 8,698 12,731 12,633 12,134 18,610 19,245 23,670 23,491 Accounts payable 138 427 724 1,255 1,094 1,310 2,204 2,315 2,655 2,407 Short-term debt 101 30 2,750 0 0 0 0 0 642 742 Total current liabilities 1,084 2,273 4,580 3,593 2,733 3,000 6,036 4,672 5,173 5,903 Long-term debt 117 120 97 60 30 0 0 103 1,303 1,004 Total fixed liabilities 130 142 110 62 33 3 5 106 1,303 1,004 Total liabilities 1,214 2,415 4,690 3,655 2,766 3,003 6,041 4,779 6,475 6,907 Total net assets 1,305 2,976 4,007 9,076 9,867 9,131 12,569 14,467 17,195 16,585 Total interest-bearing debt 218 150 2,847 60 30 0 0 103 1,944 1,746 Cash flow statement (JPYmn) Cash flows from operating 471 2,260 -1,316 2,825 1,228 1,553 5,073 3,796 1,505 3,975 activities Cash flows from investing activities -85 -1,087 -2,507 -912 -4,912 -458 -3,458 -5,111 -2,849 -2,342 Cash flows from financing activities -90 -32 6,363 524 15 49 454 -705 2,855 318 Financial ratios ROA (RP-based) 47.2% 71.3% - 23.9% 15.1% 6.7% 31.6% 26.4% 7.6% 6.6% ROE 53.4% 75.8% - 27.6% 7.6% -8.6% 28.9% 19.0% 2.6% 4.8% Equity ratio 51.8% 55.2% 45.5% 70.8% 77.7% 75.1% 67.4% 75.1% 65.3% 70.5%

Source: Shared Research based on company data Notes: Figures may differ from company materials due to differences in rounding methods. *FY12/13 was an irregular 16-month period resulting from a change in the company’s accounting period.

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 5 Recent updates KLab Inc. announces earnings results for 1H FY12/21

2021-08-05

KLab Inc. announced earnings results for 1H FY12/21; see the results section for details.

The company announced revisions to full-year FY12/21 earnings forecast.

Revised earnings forecast for FY12/21

Revenue: JPY25.5–28.5bn (previously JPY27.0–32.0bn) Operating profit: -JPY1.6–1.0bn (-JPY500mn–1.8bn) Recurring profit: -JPY1.5–1.1bn (-JPY300mn–2.0bn) Net income attributable to owners of the parent: -JPY2.0bn–JPY20mn (-JPY1.3bn–JPY200mn) EPS: -JPY52.17–0.52 (-JPY33.71–5.19)

Reasons for the revision

In Q2 (April–June 2021) sales of a number of titles slowed. In particular, after falling significantly short of previous forecasts in Q1 (January–March 2021), revenue for Love Live! School Idol Festival All Stars (Love Live! All Stars) failed to recover in Q2. Furthermore, revenue for BLEACH: Brave Souls declined more than the company expected. KLab revised its forecast due to the prospects that revenue from the titles would continue to diminish in Q3 (July–September) and beyond. However, the declines may reflect temporary factors such as customers deferring purchases ahead of major events, so the company set ranges for its forecasts to account for a possible future recovery.

The company expects revenue growth from Q3 onward as it plans to hold anniversary campaigns for numerous titles including BLEACH: Brave Souls, Love Live! All Stars, and Captain Tsubasa: Dream Team. It also expects a contribution to revenue from the release of Lapis Re:LiGHTs, which is currently under development. The company expects profit at all lines to decline on lower revenue, but it also forecasts lower expenses due to cost cuts.

Assumptions

The revised figures are based on the following assumptions.

The company plans to release one new title in FY12/21: Lapis Re:LiGHTs. The revenue range takes into consideration the revenue life cycle of existing games and the expected success levels of the new games (including overseas releases of existing titles). The upper limit of the range assumes new games perform strongly and existing games show limited decline, whereas the lower limit assumes the opposite. The company conservatively forecasts no revenue contribution from the parent's casual game business.

Regarding expenses,

Operational costs associated with the release of new titles (labor costs, outsourcing costs, depreciation) are expected to increase. An increase in personnel is expected to drive up labor costs and recruiting expenses. Development expenses transferred to software assets will increase as the development of new titles for release in 2022 onward gets into full swing. As in FY12/20, the company assumes that some budgets (transport, entertainment, and welfare) will be left unused due to COVID-19. The company is looking into cost cuts, and set the forecast based on two scenarios, one for smaller reductions and the other for larger ones.

Other assumptions in the revised full-year forecast are as follows.

In Q1, the company booked an extraordinary impairment loss of JPY1.5bn. It expects Global Gear, a consolidated subsidiary since April 2021, to generate earnings in line with FY12/20 (revenue of JPY508mn and operating profit of JPY211mn).

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 6 Q1 FY12/21 Report Update

2021-06-16

Shared Research updated the report following interviews with KLab Inc.

Q1 FY12/21 Flash Update / Recording of extraordinary loss / Revisions to its full-year forecast

2021-05-13

KLab Inc. announced earnings results for Q1 FY12/21; see the results section for details.

On the same day, the company announced the recording of an extraordinary loss and revisions to its full-year forecast.

The company revised its full-year FY12/21 company forecast at the time of its Q1 FY12/21 earnings announcement. The company’s revised FY12/21 forecast calls for revenue of JPY27.0bn to JPY32.0bn (-20.5% to -5.8% YoY), operating loss of JPY500mn to operating profit of JPY1.8bn (versus operating profit of JPY2.1bn in FY12/20), recurring loss of JPY300mn to recurring profit of JPY2.0bn (versus recurring profit of JPY1.6bn), and net loss attributable to owners of the parent of JPY1.3bn to net income attributable to owners of the parent of JPY200mn (versus net income attributable to owners of the parent of JPY767mn).

The company revised its full-year revenue target downward due to the fact that revenue for Love Live! All Stars and Tales of Crestoria fell short of plan in Q1 FY12/21, and owing to release schedule for new titles. Operating profit/loss and recurring profit/loss targets were adjusted to reflect cost reductions and lower depreciation expenses due to the JPY1.5mn impairment loss incurred in Q1. Net income/loss attributable to owners of the parent factored in the impairment loss.

Other assumptions in the revised full-year forecast are as follows.

In FY12/20, KLab saw a reduction in expenses due to COVID-19 (including transportation, entertainment, and welfare expenses), which it expects will continue throughout FY12/21. The company is considering curtailing costs as of May 2021, and devised the forecast based on two cost cutting scenarios, one calling for smaller reductions and the other for larger ones. The company anticipates that Global Gear Co. Ltd., which became a consolidated subsidiary in April 2021, will generate the same level of earnings as in FY12/20.

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 7 Trends and outlook Quarterly trends and results

Cumulative FY12/20 FY12/21 FY12/21 (JPYmn) Q1 Q1–Q2 Q1–Q3 Q1–Q4 Q1 Q1–Q2 Q1–Q3 Q1–Q4 % of Est. FY Est. Revenue 7,420 15,949 26,361 33,952 6,393 12,337 - 25,500~28,500 YoY 14.7% 7.7% 17.8% 9.1% -13.8% -22.6% -24.9%~-16.1% Cost of revenue 6,141 12,876 20,489 26,960 6,065 11,407 YoY 27.3% 17.8% 21.7% 12.0% -1.2% -11.4% Cost ratio 82.8% 80.7% 77.7% 79.4% 94.9% 92.5% Gross profit 1,280 3,073 5,872 6,992 328 930 YoY -22.2% -20.8% 6.0% -0.5% -74.3% -69.7% Gross profit margin 17.2% 19.3% 22.3% 20.6% 5.1% 7.5% SG&A expenses 1,242 2,319 3,618 4,843 833 1,772 YoY -0.9% -9.9% -5.5% -9.6% -32.9% -23.6% SG&A ratio 16.7% 14.5% 13.7% 14.3% 13.0% 14.4% Operating profit 37 754 2,254 2,149 -505 -842 - -1,600~1,000 YoY -90.4% -42.2% 31.7% 28.4% - - - Operating profit margin 0.5% 4.7% 8.6% 6.3% - - - Recurring profit -84 568 1,803 1,565 -387 -819 - -1,500~1,100 YoY - -52.8% 14.9% -3.7% - - - Recurring profit margin - 6.7% 17.3% 20.6% - - - Net income -135 16 856 767 -1,384 -1,706 - -2,000~20 YoY - -98.0% -29.6% 99.9% - - - Net margin - 0.1% 3.2% 2.3% - - - Quarterly FY12/20 FY12/21 (JPYmn) Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Revenue 7,420 8,528 10,412 7,591 6,393 5,944 YoY 14.7% 2.2% 37.6% -13.1% -13.8% -30.3% Cost of revenue 6,141 6,735 7,613 6,471 6,065 5,343 YoY 27.3% 10.2% 29.0% -10.6% -1.2% -20.7% Cost ratio 82.8% 79.0% 73.1% 85.2% 94.9% 89.9% Gross profit 1,280 1,793 2,799 1,120 328 602 YoY -22.2% -19.7% 68.4% -24.8% -74.3% -66.4% Gross profit margin 17.2% 21.0% 26.9% 14.8% 5.1% 10.1% SG&A expenses 1,242 1,077 1,299 1,225 833 939 YoY -0.9% -18.5% 3.4% -19.8% -32.9% -12.8% SG&A ratio 16.7% 12.6% 12.5% 16.1% 13.0% 15.8% Operating profit 37 716 1,500 -105 -505 -337 YoY -90.4% -21.6% 269.1% - - - Operating profit margin 0.5% 8.4% 14.4% - - - Recurring profit -84 652 1,235 -238 -387 -432 YoY - -18.6% 239.0% - - - Recurring profit margin - 7.6% 11.9% - - - Net income -135 151 840 -89 -1,384 -322 YoY - -70.0% 101.4% - - - Net margin - 1.8% 8.1% - - -

Source: Shared Research based on company data Note: Figures may differ from company materials due to differences in rounding methods.

Quarterly earnings by segment

Cumulative FY12/20 FY12/21 (JPYmn) Q1 Q1–Q2 Q1–Q3 Q1–Q4 Q1 Q1–Q2 Q1–Q3 Q1–Q4 Revenue 7,420 15,949 26,361 33,952 6,393 12,337 YoY 14.7% 7.7% 17.8% 9.1% -13.8% -22.6% Game 7,352 15,824 26,109 33,587 6,273 12,128 YoY 16.2% 8.3% 18.1% 9.2% -14.7% -23.4% Other 68 125 251 365 119 209 YoY -52.4% -39.7% -7.2% -0.1% 75.5% 67.6% Gross profit 1,280 3,073 5,872 6,992 328 930 YoY -22.2% -20.8% 6.0% -0.5% -74.3% -69.7% Gross profit margin 17.2% 19.3% 22.3% 20.6% 5.1% 7.5% Game 1,252 3,034 5,785 6,833 258 812 YoY -20.6% -20.2% 5.7% -2.0% -79.4% -73.2% Gross profit margin 17.0% 19.2% 22.2% 20.3% 4.1% 6.7% Other 28 39 87 159 71 118 YoY -59.2% -48.4% 31.5% 172.9% 151.7% 203.2% Gross profit margin 41.2% 31.2% 34.7% 43.6% 59.1% 56.5% Quarterly FY12/20 FY12/21 (JPYmn) Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Revenue 7,420 8,528 10,412 7,591 6,393 5,944 YoY 14.7% 2.2% 37.6% -13.1% -13.8% -30.3% Game 7,352 8,472 10,285 7,478 6,273 5,855 YoY 16.2% 2.3% 37.1% -13.4% -14.7% -30.9% Other 68 57 127 114 119 90 YoY -52.4% -11.4% 97.2% 20.4% 75.5% 58.2% Gross profit 1,280 1,793 2,799 1,120 328 602 YoY -22.2% -19.7% 68.4% -24.8% -74.3% -66.4% Gross profit margin 17.2% 21.0% 26.9% 14.8% 5.1% 10.1% Game 1,252 1,782 2,751 1,048 258 554 YoY -20.6% -20.0% 64.6% -30.0% -79.4% -68.9% Gross profit margin 17.0% 21.0% 26.7% 14.0% 4.1% 9.5% Other 28 11 48 72 71 47 YoY -59.2% 61.0% - - 151.7% 336.0% Gross profit margin 41.2% 19.2% 38.1% 63.4% 59.1% 53.0%

Source: Shared Research based on company data

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 8 Revenue breakdown by region (Japan, Overseas)

Cumulative FY12/20 FY12/21 (JPYmn) Q1 Q1–Q2 Q1–Q3 Q1–Q4 Q1 Q1–Q2 Q1–Q3 Q1–Q4 Revenue 7,420 15,949 26,361 33,952 6,393 12,337 YoY 14.7% 7.7% 17.8% 9.1% -13.8% -22.6% Japan 5,112 10,391 17,075 22,092 3,948 7,366 YoY 28.9% 11.6% 19.4% 8.5% -22.8% -29.1% Overseas 2,308 5,558 9,286 11,860 2,445 4,971 YoY -7.8% 1.1% 15.0% 10.3% 5.9% -10.6% Quarterly FY12/20 FY12/21 (JPYmn) Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Revenue 7,420 8,528 10,412 7,591 6,393 5,944 YoY 14.7% 2.2% 37.6% -13.1% -13.8% -30.3% Japan 5,112 5,278 6,684 5,017 3,948 3,418 YoY 28.9% -1.3% 34.1% -17.2% -22.8% -35.2% Overseas 2,308 3,250 3,728 2,574 2,445 2,526 YoY -7.8% 8.5% 44.5% -3.8% 5.9% -22.3%

Source: Shared Research based on company data

Cost and expenses

Cumulative FY12/20 FY12/21 (JPYmn) Q1 Q1–Q2 Q1–Q3 Q1–Q4 Q1 Q1–Q2 Q1–Q3 Q1–Q4 Cost of revenue 6,141 12,876 20,489 26,960 6,065 11,407 YoY 27.3% 17.8% 21.7% 12.0% -1.2% -11.4% Labor costs 1,018 2,040 3,040 4,048 1,046 2,111 YoY 6.4% 6.8% 4.8% 3.8% 2.8% 3.5% Outsourcing costs/Outsourcing costs 1,186 2,361 3,578 4,829 1,308 2,637 YoY -2.1% 3.1% -0.3% 2.1% 10.3% 11.7% Royalties and commission fees 3,665 7,897 12,598 16,117 3,089 6,014 YoY 16.1% 11.5% 18.3% 7.7% -15.7% -23.8% % of Game revenue 49.8% 49.9% 48.3% 48.0% 49.2% 49.6% Depreciation 365 731 1,304 1,867 547 575 YoY 46.6% 0.4% 10.3% 2.8% 49.9% -21.3% Other 332 677 1,094 1,451 335 644 YoY -1.0% -7.9% -4.1% -6.0% 0.9% -4.8% Transfer to other accounts -425 -830 -1,125 -1,352 -260 -574 SG&A expenses 1,242 2,319 3,618 4,843 833 1,772 YoY -0.9% -9.9% -5.5% -9.6% -32.9% -23.6% Salaries and allowances 280 575 844 1,098 215 440 Advertising expenses 547 916 1,546 2,105 237 544 Other 414 825 1,223 1,633 380 785 Quarterly FY12/20 FY12/21 (JPYmn) Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Cost of revenue 6,141 6,735 7,613 6,471 6,065 5,343 YoY 27.3% 10.2% 29.0% -10.6% -1.2% -20.7% Labor costs 1,018 1,022 1,000 1,008 1,046 1,065 YoY 6.4% 7.2% 0.9% 1.0% 2.8% 4.2% Outsourcing costs/Outsourcing costs 1,186 1,175 1,217 1,251 1,308 1,329 YoY -2.1% 8.8% -6.3% 9.7% 10.3% 13.1% Royalties and commission fees 3,665 4,232 4,701 3,519 3,089 2,925 YoY 16.1% 7.8% 31.6% -18.4% -15.7% -30.9% % of Game revenue 49.8% 50.0% 45.7% 47.1% 49.2% 50.0% Depreciation 365 366 573 563 547 28 YoY 46.6% -23.6% 26.2% -11.2% 49.9% -92.3% Other 332 345 417 357 335 310 YoY -1.0% -13.7% 3.0% -11.4% 0.9% -10.3% Transfer to other accounts -425 -405 -295 -227 -260 -314 SG&A expenses 1,242 1,077 1,299 1,225 833 939 YoY -0.9% -18.5% 3.4% -19.8% -32.9% -12.8% Salaries and allowances 280 295 269 254 215 225 Advertising expenses 547 369 630 559 237 307 Other 414 411 398 410 380 405

Source: Shared Research based on company data

1H FY12/21 results

Revenue: JPY12.3bn (-22.6% YoY) Operating loss: JPY842mn (versus operating profit of JPY745mn in 1H FY12/20) Recurring loss: JPY819mn (versus recurring profit of JPY568mn in 1H FY12/20) Net loss attributable to owners of the parent: JPY1.7bn (versus net income of JPY16mn in 1H FY12/20)

1H FY12/21 revenue

By region, revenue in Japan was JPY7.4bn (-29.1% YoY) and revenue overseas was JPY5.0bn (-10.6% YoY).

1H FY12/21 expenses and profits

KLab recorded an operating loss of JPY842mn (versus operating profit of JPY745mn in 1H FY12/20). Gross profit was down YoY on the decline in revenue. The company posted an operating loss despite a decrease in SG&A expenses.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 9 Cost of revenue was JPY11.4bn (-11.4 YoY). Royalties and commissions decreased in tandem with revenue, but labor and outsourcing expenses increased as development of titles for release in 2022 and beyond got into full swing.

SG&A expenses were JPY1.8bn (-23.6% YoY).

The wider operating loss resulted in lower profit from the recurring line downward. A factor in the larger net loss attributable to owners of the parent was the booking of a JPY1.5bn impairment loss in Q1 for Love Live! All Stars and Tales of Crestoria (not recorded in Q1 FY12/20).

Results for Q2 FY12/21 (April–June 2021)

Revenue: JPY5.9bn (-30.3% YoY, -7.0% QoQ) Operating loss: JPY337mn (versus operating profit of JPY716mn in Q2 FY12/20, operating loss of JPY505mn in Q1 FY12/21) Recurring loss: JPY432mn (versus recurring profit of JPY652mn in Q2 FY12/20, recurring loss of JPY387mn in Q1 FY12/21) Net loss attributable to owners of the parent: JPY332mn (versus net income of JPY151mn in Q2 FY12/20, net loss of JPY1.4bn in Q1 FY12/21)

Q2 FY12/21 revenue

By region, revenue in Japan was JPY3.4bn (-35.2% YoY, -13.4% QoQ) and revenue overseas was JPY2.5bn (-22.3% YoY, +3.3% QoQ). On a YoY basis, Love Live! All Stars and BLEACH: Brave Souls performed poorly, and revenue from anniversary events for the global version of Captain Tsubasa was down. On a QoQ basis, revenue fell due to declines in the Japanese, global, and Asian versions of BLEACH: Brave Souls and the Japanese version of Love Live! All Stars.

QoQ performance of major titles was as follows.

Love Live! School Fest: Solid due to anniversary events. Revenue from the Japanese version was up; revenue from the global version was flat.

BLEACH: Brave Souls: Revenue from the Japanese, global, and Asian versions was down as customers held off on purchases ahead of anniversary events.

Captain Tsubasa: Revenue from the Japanese version dipped ahead of anniversary events and increased from the global version due to anniversary events.

Utano☆Princesama Shining Live: Revenue rose for the Japanese and global versions. A major update, in-game events, and promotions via convenience store collaborations contributed.

Love Live! All Stars: Still lackluster. Japanese version revenue was down. The global version was flat. A simplified Chinese version was released in May 2021, but made a limited contribution to revenue.

Tales of Crestoria: Revenue from the Japanese and global versions fell.

Q2 FY12/21 expenses and profits

KLab booked an operating loss of JPY337mn (versus operating profit of JPY716mn in Q2 FY12/20, and operating loss of JPY505mn in Q1 FY12/21). Gross profit was JPY602mn (-66.4% YoY) on lower revenue and the operating loss widened YoY. The operating loss narrowed QoQ on higher gross profit, despite lower revenue. Following the Q1 impairment loss for Love Live! All Stars and Tales of Crestoria, depreciation (cost of sales) declined in Q2 and gross profit rose 83.3% QoQ.

Cost of revenue was JPY5.3bn (-20.7% YoY, -11.9% QoQ). In line with the fall in revenue, royalties and commissions fell to JPY2.9bn (-30.9% YoY, -5.3% QoQ) and depreciation was JPY28mn (-92.3% YoY, -94.9% QoQ). Meanwhile, labor costs were JPY1.1bn (+4.2% YoY, +1.8% QoQ) and outsourcing costs rose to JPY1.3bn (+13.1% YoY, +1.6% QoQ).

SG&A expenses were JPY939mn (-12.8% YoY, +12.7% QoQ). The QoQ rise reflected higher advertising expenses for Captain Tsubasa anniversary events.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 10 On a YoY basis, all profit lines from recurring profit downward deteriorated due to a wider operating loss. On a QoQ basis, the operating loss narrowed, but the recurring loss widened due to a JPY132mn foreign exchange loss (JPY121mn foreign exchange gain in Q1). The net loss narrowed as the JPY1.5bn impairment loss booked in Q1 dropped out. Full-year company forecasts

FY12/20 FY12/21 (JPYmn) 1H Act. 2H Act. FY Act. 1H Act. 2H Est. FY Est. Revenue 15,949 18,003 33,952 12,337 13,163~16,163 25,500~28,500 YoY 7.7% 10.5% 9.1% -22.6% -26.9%~-10.2% -24.9%~-16.1% Cost of revenue 12,876 14,084 26,960 11,407 Gross profit 3,073 3,919 6,992 930 Gross profit margin 19.3% 21.8% 20.6% 7.5% SG&A expenses 2,319 2,523 4,843 1,772 SG&A ratio 14.5% 14.0% 14.3% 14.4% Operating profit 754 1,396 2,149 -842 -758~1,842 -1,600~1,000 YoY -42.2% 278.2% 28.4% - - - Operating profit margin 4.7% 7.8% 6.3% - - - Recurring profit 568 997 1,565 -819 -681~1,919 -1,500~1,100 YoY -52.8% 136.7% -3.7% - - - Recurring profit margin 3.6% 5.5% 4.6% - - - Net income 16 751 767 -1,706 -294~1,726 -2,000~20 YoY -98.0% -280.9% 99.9% - - - Net margin 0.1% 4.2% 2.3% - - -

Source: Shared Research based on company data Note: Figures may differ from company materials due to differences in rounding methods.

KLab revised its full-year FY12/21 forecast when it announced 1H FY12/21 earnings (August 2021). The revised forecast calls for revenue of JPY25.5bn to JPY28.5bn (-24.9% to -16.1% YoY), operating loss of JPY1.6bn to operating profit of JPY1.0bn (versus operating profit of JPY2.1bn in FY12/20), recurring loss of JPY1.5bn to recurring profit of JPY1.1bn (versus recurring profit of JPY1.6bn in FY12/20), and net loss attributable to owners of the parent of JPY2.0bn to net income attributable to owners of the parent of JPY20mn (net income of JPY767mn in FY12/20).

Versus its previous forecast (May 2021) the company lowered the upper end of the range by JPY3.5bn for revenue, JPY800mn for operating profit, JPY900mn for recurring profit, and JPY180mn for net income. It lowered forecasts at the bottom end of the range by JPY1.5bn for revenue, JPY1.1bn for operating profit, JPY1.2bn for recurring profit, and JPY700mn for net income.

Reasons for the revision

Assumptions

The revised figures are based on the following assumptions.

Regarding expenses,

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 11 Operational costs associated with the release of new titles (labor costs, outsourcing costs, and depreciation) are expected to increase. An increase in personnel is expected to drive up labor costs and recruiting expenses. Development expenses transferred to software assets will increase as the development of new titles for release in 2022 onward gets into full swing. As in FY12/20, the company assumes that some budgets (transport, entertainment, and welfare) will be left unused due to COVID-19. The company is looking into cost cuts, and set the forecast based on two scenarios, one for smaller reductions and the other for larger ones.

Other assumptions in the revised full-year forecast are as follows.

The commentary following refers to the previous company forecast. Shared Research plans to update the report after interviewing management.

QoQ comparison

In terms of new games, the company aims to release one (already announced) title in FY12/21, as well as one existing title in another language. Management forecasts revenue from existing games declining 5%–10% YoY. Revenue from of existing games improved in FY12/20, including for BLEACH: Brave Souls, which achieved record annual sales in the sixth year after its initial release.

In terms of factors other than new games impacting revenue, Tales of Crestoria was released in July 2020, contributing to revenue for about six months in FY12/20. The game is set to provide a full-year contribution in FY12/21. The game performed well right after its July 2020 release, but serious bug issues that later emerged put downward pressure on revenue. Although the most serious bugs have been fixed, the company says the outlook for the game’s recovery in FY12/21 is uncertain.

Since Tales of Crestoria is distributed by BANDAI NAMCO Entertainment as the publisher, profit for the game is booked at NAMCO BANDAI Entertainment. The company subsequently receives a revenue share from NAMCO BANDAI Entertainment based on an established fee rate. While the amount recorded as sales at the company may be relatively small, the profit margin is rather high, as there are no royalties or commissions to be paid.

Development pipeline

The company expects to release Lapis Re:LiGHTs, an idol-training RPG during FY12/21. Games expected to be released from FY12/21 include the Is It Wrong to Try to Pick Up Girls in a Dungeon? title and a game currently in development in cooperation with EA. In addition to a small-scale casual game, the company’s pipeline also includes two undisclosed games.

Lapis Re:LiGHTs is a media mix project with KADOKAWA CORPORATION, with IP rights jointly owned between the two companies. The game is being co-developed with Chinese company Shengqu Games. KLab Inc. is scheduled to release the Japanese version and Chinese firm bilibili Inc. is scheduled to release the Simplified Chinese version. While the company expected to release the game in 2020, the launch was postponed to 2021 to ensure product quality.

Multi-language development

The company released in May 2021 Love Live! All Star in a Simplified Chinese version, which is operated by Shengqu Games.

Other efforts

Expanding support for the development of games for overseas markets

The company aims to increase its experience in supporting the development of games for overseas markets. In these types of support efforts, KLab receives requests from Japanese companies that hold IP rights and are looking to make their games

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 12 profitable overseas, with the company then using its offices in China to seek out overseas developers and co-develop games with them. Joint development involves the company being responsible mainly for project management and supervision, while overseas developers are in charge of game development and the development of the overseas markets.

In FY12/21, the company will promote the development of a game based on Kumamon, a game based on the animation series “JoJo’s Bizarre Adventure,” and a Touhou Project spin-off game. The company also has six other, as of yet undisclosed, pipeline projects.

Kumamon is the Kumamoto Prefecture PR mascot in the “Kumamoto Surprise” campaign first launched by the prefecture in 2010.

JoJo’s Bizarre Adventure anime series: This is an anime series based on the serial manga that was launched in Weekly Shonen Jump (Shueisha) in 1987. The original manga was a long-running series that was serialized for a period of over 30 years, with over 100 collected volumes and over 100mn total copies sold. The anime series commenced broadcast in 2012, and has attracted support across a wide range of generations due to its faithful reproduction of the manga’s world view and charm. The anime is also distributed overseas, and has garnered a certain number of overseas fans.

The Touhou Project: The name for a group of works created by the doujin circle Team Shanghai Alice and set in the fictional world of Gensokyo. The series originated from a PC game created in the 1990s by the original author ZUN. The series, which centers around games, books, and music CDs in the bullet hell shooting game genre, has gained many fans in Japan and worldwide.

Revenue sharing in operations supporting the development of games overseas is based on total game revenue. According to the company, the contribution to sales is smaller than that from mainstay games developed in house, but the profit margins are higher.

Development of casual games

The company has been developing casual games since FY12/20. There are two revenue models for casual games. The first requires that the player watch a video advertisement in order to play or acquire items, with revenue coming from the advertisers based on how many times the advertisement was viewed. The second is based on players purchasing items to further advance within the game. Investment per game ranges from a few million yen to JPY100mn at most, with the company developing multiple games of this type. The company from FY12/20 has been creating prototype games and distributing test versions in the US and other countries. Games with strong KPIs, including CPI (advertising cost per install), will be advanced to full development. The company produced several casual games in FY12/20, but the results of KPI testing showed performance falling short of the company’s standards.

Casual games are those that do not require complex strategies in order to achieve the given objectives. They are so easy to operate that they do not require detailed operating instructions.

Given uncertainties over future earnings of parent from casual games, management has indicated that while its FY12/21 forecasts factor in development costs for casual games, they do not factor in earnings for the same.

Point of comparison Casual game Traditional mobile games Development period One month to one year About two years Development cost JPY100mn at most JPY1.0bn–JPY2.0bn Monetization Advertising/item fees Gacha/item fees Target market Smartphone users around the world Fans of the IP around the world Can launch with low advertising and development costs. Success can bring strong sales and could lead to next IP Merits Can be developed without use of IP. acquisition.

Source: Shared Research based on company data

KLab made GlobalGear into a consolidated subsidiary in April 2021. GlobalGear designs, develops, and operates mobile applications, with a focus on casual games. Having released over 100 games developed in-house to date, the company has the design capabilities to create hit titles with over 10 million downloads. Going forward, KLab expects synergies from the consolidation to accelerate business growth in casual games, including enhancing both companies’ development pipelines and leveraging KLab’s expertise and resources to help GlobalGear make further inroads into overseas markets. The company does not disclose the acquisition price for GlobalGear’s shares.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 13 Costs

Factors expected to contribute to an increase in costs include a reduction in account transfers, the start of depreciation on software assets, and advertising in line with the release of Lapis: Re:LiGHTs. The company also expects recruitment-related costs to increase on the hiring of development personnel. While the COVID-19 pandemic resulted in unused transportation, entertainment, and welfare expenses in FY12/20, the company expects an increase in those costs from 2H FY12/21 (July– December 2021).

Management in FY12/21 expects an uptick in labor and outsourcing costs in line with an increase in development personnel headcount as the company develops the Is It Wrong to Try to Pick Up Girls in a Dungeon? game and partners with EA in the joint development of other games. However, since labor and outsourcing costs related to games under development will be transferred to the software in progress account, they will play a factor in the increase in cost of sales in FY12/21.

The company has disclosed a ranged sales forecast for FY12/21, but calculates its costs forecasts irrespective to the effects from sales fluctuations. Management expects SG&A costs to be about the same as in FY12/20. Medium- to long-term outlook

Along with the FY12/20 results, the company unveiled its medium-term management plan, which targets FY12/23 revenue of JPY50.0bn (up 47.3% from FY12/20) and operating profit of JPY10.0bn (+365.2%).

The company in its targets is following a policy aimed at growing profit through the stable management of existing titles while simultaneously growing revenue and profit from the release of new titles. Over the course of the plan, it also intends to secure new sources of earnings other than conventional game development and operations, such as through casual games and overseas game development support.

Growing profit through the stable management of existing titles

While monthly revenue for existing games tends to deteriorate gradually each year following their release in each country, the company plans to limit the decline in existing game revenue by holding regular (e.g., anniversary events) and one-time events. The company also aims to expand sales by increasing monetization methods, providing multi-platform/multi-device compatibility, and expanding the area of distribution.

Expanding the distribution area

As of April 2019, the company distributed its games in up to 155 countries depending on title, localized in 10 languages. Taking the lead over its competitors in overseas development has allowed the company to amass a significant level of knowhow in the development and operation of games in overseas markets. KLab aims to strengthen its presence overseas based on the size and growth rate of each regional market, and in addition to China, where it has already found some success, is considering moving into the markets in Southeast Asia, the Middle East, North Africa, Russia, and South America.

Game design assuming overseas release; overseas operation know-how

When the company first launched development efforts overseas, it not only translated text in existing games, but also managed the binaries (data other than text) in each area, changing some of them to suit the local culture before releasing the game. With the idea of releasing the games in overseas markets, current development efforts are focused on standardizing the binaries by as much as possible, therefore making overseas development possible with only some updates, including the addition of language support. The practice obviates the need to operate games by region, enabling unified operation of Japanese and global versions. Regarding charging system, the ratio of players spending on gacha, which has an element of luck, may be low depending on the country or region. KLab has raised the ratio of paying players by introducing packs that contain predetermined characters. The company has put in place multiple mechanisms for players to make purchases in each of its games so that it can earn revenue regardless of region or culture.

Multi-platform/multi-device compatibility

The company is developing one game that will be available not only on smartphones, but also on PCs and gaming consoles, including PlayStation and Switch. Management believes this will increase the number of opportunities for users to play these games, and accordingly increase sales per game. In August 2020, the company began global distribution of BLEACH: Brave

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 14 Souls for PCs through the Steam platform. Management intends to offer an increasing number of existing games on the same basis moving forward.

Additional methods for monetization

The lion’s share of the company’s revenue in FY12/20 appears to have come from gacha charges. However, the company aims to improve existing game revenue through the introduction of a monthly subscription system for the purchasing of in- game currencies and items, and by promoting the sale of advertising space within the games.

Growing revenue and profit through new games

New games are developed based largely on globally popular animations and comics, and are limited to areas in which KLab has produced hits in the past. Moreover, by promoting cooperation with external development companies, the company aims to increase its development pipeline and bolster the hit ratio in new games. Over the medium term, the company aims to release one to two new games each year. The company has traditionally developed original IP as a large-scale media mix project, including turning this IP into a game. However, the company shifted this strategy in FY12/20, with a focus on fostering an IP fan base in line with user and reader comments taken from social networking, manga, and video sites, while limiting media and not necessarily converting IP into a game.

In terms of investment required for the development of a new game, the creation of large-scale titles produced in house, such as Love Live! All Stars and Magatsu required about JPY2.0bn, though that cost has been reduced to about JPY1.0bn– JPY1.5bn as of March 2021 thanks to the company continually developing a common infrastructure for all games, limiting its field of development, and promoting joint development. The development of a single game takes about two years.

Development based on globally popular anime and manga

Based on the success it has had overseas with BLEACH: Brave Souls and Captain Tsubasa, KLab plans to develop games based on anime and manga that are popular around the world and distribute them globally. The company says there is little disparity in royalties for anime and manga with global popularity versus those whose fanbases are mostly in Japan.

Limiting development to areas where the company has produced hits in the past

KLab plans to limit game genres to action RPG, sports, and rhythm action, which have all produced hits in the past. This will lower the risk of game revenue falling below company estimates, while also putting downward pressure on costs thanks to the standardization of basic functions within an app through the development of a common structure in each area. The company has a track record of producing hits in these genres, including BLEACH: Brave Souls (action RPG), Captain Tsubasa (sports), and the Love Live! series (rhythm action).

Promoting joint development with external development companies

The improvement in game quality in line with the transition to 3-D graphics has contributed to higher development costs. The company has accordingly focused on reducing development costs through the use of outsourcing. In particular, the company through these collaborations aims to increase its development pipeline while limiting the decline in sales as a result of fluctuations in sales.

The development pipeline

KLab expects to launch Lapis Re:LiGHTs in FY12/21. Games slated for release from FY12/22 include the Is It Wrong to Try to Pick Up Girls in a Dungeon? title and a game stemming from the tie-up with Electronic Arts Inc. (EA). In addition to a small- scale casual game, the company’s pipeline also includes two undisclosed games.

Games based on the tie-up with EA: The company is promoting the development of a sports simulation game tied to the EA Sports brand of Electronic Arts Inc. The game is scheduled for FY12/21 release, but details have yet to be disclosed as of March 2021. Shared Research is of the understanding that the success of the global versions of Captain Tsubasa and BLEACH: Brave Souls contributed to the tie-up with EA, one of the world’s largest game publishers.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 15 The company aims to develop a new PC and mobile game for global distribution based on the Is It Wrong to Try to Pick Up Girls in a Dungeon? animation series. Development will be conducted in partnership with Aiming (TSE Mothers: 3911), with the company releasing the game on its own without going through a publisher.

Electronic Arts Inc.: Electronic Arts Inc. is one of the largest game publishers in the world, with series such as: FPS titles Apex Legends, Battlefield, and Medal of Honor; racing game Need for Speed; action RPG Mass Effect; and urban development simulation SimCity. It owns the label EA Sports, which specializes in sports games and develops series such as soccer series FIFA and basketball series NBA. The Is It Wrong to Try to Pick Up Girls in a Dungeon? animation series is based on the Fujino Omori novel series of the same name launched in 2013 and published by GA Bunko (SB Creative). The first season of the animation series was aired in 2015, with the fourth season scheduled to air in 2022. The novel series has sold about 1.2mn copies.

Profits

The OPM was 6.3% in FY12/20, but the company aims to improve this figure by FY12/23 to 20.0%. From FY12/20 onward the company aims to develop large-scale hit games in-house to grow revenue while using the aforementioned strategies to lower development expenses and reduce the ratio of fixed costs to revenue. Since FY12/15, the company’s OPM has trended above 10% except in FY12/16, FY12/19 and FY12/20.

KLab’s cost of revenue ratio is affected by labor and outsourcing costs, and transfer to other accounts through which development expenses for new games are capitalized (recorded as assets on the balance sheet). In FY12/20, the ratio of labor and outsourcing costs to Game business revenue was 26.4%. Royalties and commissions are another significant item in cost of revenue. The ratio of royalties and commissions to Game business revenue was 48.0% in FY12/20.

Royalties are fees paid to IP rights holders and commissions are fees paid for the use of app distribution platforms such as those of Google and Apple. From FY12/16 to FY12/20, the ratio of royalties and commissions to Game business revenue hovered around 50%.

The ratio of labor costs and outsourcing costs to Game business revenue was 17.2% in FY12/16, but rose to 26.4% in FY12/20. Development and operation costs per game increased as games became higher in quality with the transition to 3-D graphics and other improvements.

The SG&A expense ratio has declined over the past five years, from 20.0% in FY12/16 to 14.3% in FY12/20.

Other growth measures

Development of casual games

The company started developing casual games in FY12/20. Casual games generate revenue in two ways. The first is through ad revenue for showing players video ads. Players watch these video ads to continue playing the game or obtain in-game items, and advertisers pay the company according to the number of views the ads get. Casual games also generate revenue by selling in-game items that give players advantages and allow them to advance more easily through the game. As mentioned above, the company plans to develop a number of these games for a cost of several million yen to at most 100 million yen per game.

Casual games are those that do not require complex strategies in order to achieve the given objectives. They are so easy to operate that they do not require detailed operating instructions.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 16 Expansion of overseas game development support

KLab aims to build a track record in overseas game development support. In this line of business, the company receives an order to make a game from a Japanese IP rights holder looking to earn profit overseas. It then leverages its Chinese base and other resources to find an overseas developer with whom it co-develops the game. Under these arrangements, the company is mainly responsible for project management and supervision, with the overseas developer handling development and overseas publishing.

KLab has already collaborated in this manner with China’s Kunlun to release BLEACH Kyo・Kai-Tamashinokakusei：Shinigami in November 2018. In FY12/21, the company will promote the development of a game based on Kumamon, a game based on the animation series “JoJo’s Bizarre Adventure,” and a Touhou Project spin-off game. The company also has six other, as of yet undisclosed, pipeline projects.

Kumamon is the Kumamoto Prefecture PR mascot in the “Kumamoto Surprise” campaign first launched by the prefecture in 2010.

The companies involved in overseas game development support will split game revenue based on a revenue-sharing agreement. According to KLab, although these projects contribute less to revenue than games developed in-house, they have higher profit margins.

Response to the start of 5G* service in Japan

Major Japanese telecommunication companies (NTT Docomo, KDDI, and SoftBank) started providing 5G services in March 2020. KLab says it will continue to develop games based on earlier network standards in line with its basic policy of developing games that can be played in any country because it thinks it will take time for 5G to become widespread globally.

*5G is the fifth-generation mobile telecommunication system characterized by high-speed and high-capacity data transfer, ultra-reliable low-latency communications, and multiple simultaneous connections.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 17 Business Business overview

KLab plans, develops, and operates mobile games, mainly for smartphones. It is a medium-sized specialist company in the mobile game development space with total revenue of JPY34.0bn in FY12/20 (versus industry-leader Mixi, Inc.’s segment revenue of JPY100.6bn in the Digital Entertainment business in FY03/21). The majority of the company’s revenue and profits comes from the Game business, which accounted for 98.9% of total revenue and 97.7% of gross profit in FY12/20.

GungHo Online Entertainment, Inc. (TSE 1: 3765) and Mixi, Inc. (TSE 1: 2121), which operate in the same industry, focus on games based on their own IPs. In contrast, KLab’s mainstay games borrow IPs from existing anime and manga. The genres of the company’s games vary from sports and rhythm action to action RPG. However, the games share elements in common: each captures the feeling of the world of its respective IP, each includes rare characters that can be developed by the player, and each allows the player to form teams from multiple characters.

Of the company’s total revenue in FY12/20, 34.9% came from overseas operations. This figure is comparable to GungHo Online Entertainment’s 39.7%, and higher than that of other companies in the same industry (Mixi and Colopl do not disclose these figures as they do not yet fall under the disclosure criteria for revenue by region). KLab plans, develops, and operates games based on IPs, especially Japanese anime and manga that are well-known overseas. The company assumes an overseas release from the outset when developing games, which enables it to boost overseas revenue by releasing global versions of its games almost at the same time as the Japanese versions.

Earnings by segment

FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Cons. Cons. Cons. Cons. Cons. Cons. Revenue 20,913 19,600 26,778 32,674 31,110 33,952 YoY -2.2% -6.3% 36.6% 22.0% -4.8% 9.1% Game 20,869 19,284 26,602 32,371 30,744 33,587 YoY -2.1% -7.6% 38.0% 21.7% -5.0% 9.2% % of total 99.8% 98.4% 99.3% 99.1% 98.8% 98.9% Other 44 316 175 303 366 365 YoY -23.2% 612.8% -44.5% 72.7% 20.8% -0.1% % of total 0.2% 1.6% 0.7% 0.9% 1.2% 1.1% Gross profit 6,714 5,192 9,565 10,549 7,031 6,992 YoY -2.2% -22.7% 84.2% 10.3% -33.4% -0.5% Gross profit margin 32.1% 26.5% 35.7% 32.3% 22.6% 20.6% Game 6,703 5,437 9,504 10,441 6,972 6,833 YoY -2.2% -18.9% 74.8% 9.9% -33.2% -2.0% Gross profit margin 32.1% 28.2% 35.7% 32.3% 22.7% 20.3% % of total 99.8% 104.7% 99.3% 99.0% 99.2% 97.7% Other 11 -245 62 107 58 159 YoY 44.1% - - 72.1% -45.5% 172.9% Gross profit margin 25.0% - 35.5% 35.4% 16.0% 43.6% % of total 0.2% -4.7% 0.7% 1.0% 0.8% 2.3% Adjustments - - -1 1 - - SG&A expenses 4,516 3,917 4,674 5,554 5,357 4,843 YoY -3.9% -13.2% 19.3% 18.8% -3.5% -9.6% SG&A ratio 21.6% 20.0% 17.5% 17.0% 17.2% 14.3% Operating profit 2,198 1,275 4,891 4,995 1,674 2,149 YoY 1.6% -42.0% 283.7% 2.1% -66.5% 28.4% Operating profit margin 10.5% 6.5% 18.3% 15.3% 5.4% 6.3%

Source: Shared Research based on company data

Revenue by region (Japan, Overseas)

FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Cons. Cons. Cons. Cons. Cons. Cons. Revenue 20,913 19,600 26,778 32,674 31,110 33,952 YoY -2.2% -6.3% 36.6% 22.0% -4.8% 9.1% Japan 19,060 16,317 21,780 21,167 20,355 22,092 YoY -5.9% -14.4% 33.5% -2.8% -3.8% 8.5% % of total 91.1% 83.2% 81.3% 64.8% 65.4% 65.1% Overseas 1,853 3,283 4,998 11,506 10,755 11,860 YoY 65.9% 77.2% 52.2% 130.2% -6.5% 10.3% % of total 8.9% 16.8% 18.7% 35.2% 34.6% 34.9%

Source: Shared Research based on company data

Definition of mobile games

Mobile games are games played by installing the game app on a smartphone. Most mobile games are free to play. Rare characters and items give the player advantages in the game, but must be purchased through a paid gacha* (electronic

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 18 lottery). These gacha purchases are the main source of revenue for game operators. Only a limited number of players opt to purchase gacha. However, companies use psychological tactics to encourage players to make purchases, e.g., playing on their desire to collect rare characters, attachment to the characters that they develop, and drive to advance in ranked competition. In addition, mobile game operators can incorporate mechanisms that keep players interested, such as large- scale online updates, limited-time events, and limited-time missions.

According to the Ministry of Internal Affairs and Communications’ “White Paper on Information and Communications,” 67.6% of the population in Japan owned smartphones. Given the population in the country as of October 2019 of 126.16mn (based on Ministry of Internal Affairs and Communications statistics), there were roughly 85.28 million smartphone owners in Japan at that time. Versus this figure, according to Gz Brain Co., Ltd.’s “Famitsu Game White Paper,” the number of mobile game players in 2018 was 47.93 million.

Differences between mobile games and console games

A key difference between mobile games and console games is that console games require the purchase of game consoles and software, but mobile games can be played free of charge as long as the player owns a smartphone. Mobile games are thus able to target those who are merely looking to kill time in addition to players who actively seek out games as entertainment. Consequently, the mobile game player base is much larger than that of console games. Another key difference is that while many console games ultimately come to an end, mobile games do not because they operate under the assumption that play will go on indefinitely.

Console game: A game played on any of a variety of game hardware sets (consoles) meant for home use.

Mobile games Console games Paid gacha (electronic lottery) for several hundred yen per Price Around JPY8,000 per game software time Paid play Only some players All players Some players stop after a few days, but some continue Period of play Several months to half a year playing for as long as several years Presupposes play on a smartphone. Image quality and Depends on console specs, but having a dedicated console character movement speed is not as advanced as on Graphics often allows rendering of high-definition, high-quality dedicated consoles due to limitations on smartphone specs graphics that have a sense of speed and flashiness. and internet speeds. Entertainment, occupying free time Purpose of playing the Some players begin playing simply a s a means to kill time, but Entertainment game gradually devote more time to the game and eventually purchase gacha

Games often have endings such as saving the world from a Other Games do not have clearly set endings. villain or solving a mystery. Features of KLab games

KLab games belong to the sports, rhythm action, and action RPG genres and are mostly based on IPs from anime and manga. Although the company’s mainstay games vary in genre, they share common elements such as the existence of rare characters, character training, and formation of teams of characters. The complex strategy required to advance in these games encourages player immersion as players collect rare characters via gacha, train them, and form them into teams in such a way as to leverage the attributes of each. The company is steadily developing heuristics, accumulating expertise, and polishing the logic of how to get these immersed players to make in-game purchases.

KLab’s main games, as shown in the table below, include Captain Tsubasa, BLEACH: Brave Souls, Love Live! School Fest, and Love Live! All Stars. For many competitors, their earnings depend on the performance of a single game. For example, GungHo Online Entertainment, Inc. (TSE1: 3765) depends on its puzzle RPG game Puzzle & Dragons for 56.9% of revenue. Meanwhile, Mixi, Inc. (TSE1: 2121) is heavily dependent on its hunting action RPG Monster Strike. In contrast, KLab earns revenue from multiple games without being overly reliant on a single one.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 19 Mainstay games

Title Overview Notes Released June 2017. A sports simulation game based on the Captain Tsubasa: Dream Team Captain Tsubasa manga, which is popular on a global scale. (Captain Tsubasa) Over 30 million downloads worldwide. Released July 2015. A 3-D slashing action battle game based on the BLEACH anime franchise. Over 50 million downloads BLEACH: Brave Souls worldwide. Distributed worldwide except in East and Southeast Asia. September 2019 release. A rhythm action RPG with training Love Live! School Idol Festival All Stars Jointly operated with Bushiroad Inc. (TSE: elements. Distributed globally, with the exception of mainland (Love Live! All Stars) 7803) China. Over three million players. Released April 2013. A rhythm action and adventure game Love Live! School Idol Festival Jointly operated with Bushiroad Inc. (TSE: based on the anime Love Live! . Over 45 million downloads (Love Live! School Fest) 7803) worldwide. Released July 2020. A turn-based RPG from the “Tales of” Operated by BANDAI NAMCO Entertainment, Tales of Crestoria RPG series. Inc. Released August 2017. A rhythm action game based on the Utano☆Princesama Shining Live anime Utano☆Princesama. Over five million downloads Jointly developed with Broccoli Co., Ltd. worldwide.

Captain Tsubasa: A soccer manga series revolving around the achievements and growth of Tsubasa Ohzora serialized in Weekly Shonen Jump (Shueisha) from 1981. The plot follows Tsubasa as he meets teammates, beats a number of rivals, and ultimately expands his sporting career overseas. When the series was made into an anime in 1983, it caused new soccer clubs to pop up all over Japan. The 37th and final installment of the series was completed in 1988, but multiple sequels have since been published depicting the growth of Tsubasa and his friends. The manga Captain Tsubasa: Rising Sun was serialized in Shueisha’s Grand Jump through 2019, continuing on to Captain Tsubasa Magazine (a special issue of Grand Jump) in 2020. The cumulative number of copies published for the entire franchise has reached over 70 million in Japan. Overseas, it has been translated into 20 languages, and has exceeded 10 million officially translated volumes sold.

Love Live!: The first creation of a collaboration between KADOKAWA Future Publishing (ASCII Media Works), Lantis Company, Limited (Now BANDAI NAMCO Arts Inc.), and SUNRISE INC. The series was serialized beginning in 2016 in Dengeki G’s Magazine (KADOKAWA ASCII Media Works). The eponymous anime, Love Live!, was created by SUNRISE INC., with Season 1 (13 episodes) being broadcast in 2013 and Season 2 (13 episodes) the following year. A sequel movie, Love Live! The School Idol Movie, was released in 2015. The series depicts the struggles and growth of the fictional school idol group μ’s (“muse”) as the members come together to save their school from shutting down. The number of female fans increased after the airing of the anime, and an idol group composed of the show’s voice actresses and also going by the name μ’s (“muse”) made an appearance as competitors on the popular NHK New Year’s television special Kohaku Uta Gassen. The third anime series, Love Live! Nijigasaki High School Idol Club was aired in 2020.

BLEACH: A manga series that was serialized in Weekly Shonen Jump (Shueisha) from 2001 to 2016 (74 volumes in total). The cumulative number of copies published in Japan came to 90 million and reached 120 million worldwide. The anime version aired from 2004 to 2012 with 366 episodes. The franchise also produced four feature films. BLEACH depicts the adventures of high school student Ichigo Kurosaki who becomes a Soul Reaper to protect his family by exterminating evil spirits and so-called “Hollows” with a group of companions.

Captain Tsubasa compared with competitors’ mainstay games

Captain Tsubasa Puzzle & Dragons Monster Strike White Cat Project Genre Sports Puzzle RPG Co-op RPG Quiz RPG Company KLab GungHo Online Entertainment Mixi Colopl Released June 2017 February 2012 October 2013 July 2014 ・Obtaining monsters ・Obtaining characters ・Obtaining monsters through ・Continuing play ・Increasing the maximu m limited gacha ・Increasing the m aximum ・Obtaining characters Charge system number of characters held ・Continuing p lay number of monsters held ・Obtaining weapons ・Obtaining uniforms ・Increasing the m aximum ・Increasing the maximum ・Obtaining special m oves number of monsters held number of friends ・Based on the manga of the ・Obtaining monsters same name ・Original IP ・Continuing play ・Original IP ・Soccer str ategy simulation ・Occasional collaboration with ・Increasing the m aximum ・Does not u se a stamina Other leveraging smartphone features other IPs number of monsters held system (no hit points, action ・Uses collection and ・Gamepl ay leveraging the ・Increasing the maximum points, etc.) strengthening elements smartphone swipe function number of friends particular to card games

Source: Shared Research based on company data.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 20 Overview of mainstay game Captain Tsubasa

Captain Tsubasa revolves around training characters and putting them together to form a “Dream Team,” which the player can use to play online matches against players from all over the world in real time. The mechanisms are complex, with multiple elements such as attributes and items intertwined into multifaceted gameplay that includes matches, training, and team formation. The characters and training elements are based on the original IP. There is also a league mode and a story mode where players can relive the Captain Tsubasa story, so even those who have never read the original can enjoy the world of Captain Tsubasa through play. Although it is possible to play the game for free, players who are mainly interested in online matches will find it is easier to collect characters and speed up their training by making in-app purchases of strengthening items.

Captain Tsubasa is a soccer simulation game centering on matches between human players. Players collect characters, train and strengthen their favorites, and form them into teams to play soccer matches.

The main elements of the game are character training, team formation, and matches. Players form a team with characters that they strengthen through training, and use this team in story mode (games that reproduce the original story interspersed with character dialogue; played against computer-controlled characters), limited-time events, league mode, competitive online matches, and so on. In league mode, players can play against teams formed by other players with the opponent controlled by the computer, and in online mode, players can play against other players in real time.

There are many ways to play the game and players can engage with it according to their preferences. Some players aim to achieve a high rank in league mode and online mode, while others are happy to relive the major developments of the manga in story mode. Still others simply enjoy collecting characters.

To win matches it is often necessary to win rare characters (cards) through gacha and train them to be more effective. Gacha must be purchased with “dreamballs,” tickets, or other in-game currency. The characters that can be obtained through gacha is not limited to the characters who appear in the manga, and may include actual players such as those on the Japanese national team or the Brazilian national team according to themed limited-time campaigns.

Matches

Matches have two parts: a field screen where players control characters by tapping and swiping, having them pass, shoot, or perform other actions, and a matchup screen where players choose moves for their characters to use versus opposing characters.

On the field, the player on offense can instruct the character with the ball to change direction, pass, or shoot, and the defender can press (approach the player with the ball). In addition, in both offensive and defensive situations, players can command their entire team to adopt an aggressive, balanced, or defensive stance.

The field screen in Captain Tsubasa

Source: Shared Research screen capture

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 21 When the player with the ball comes into contact with an opposing player on the field screen, the game switches to the matchup screen. The offensive player in a matchup can choose an action from four options: dribble, pass, one-two, or shoot. On the defensive side, players can choose from three options to try to prevent the offensive player’s action and regain possession: a tackle that is effective against dribbling, a pass cut that blocks passes and one-two moves, or a block that stops shots.

Matchups occur frequently during a match. These give players the opportunity to enjoy choosing tactics to fit the situation. For example, when a player is on the offensive side in a matchup, and has a teammate with a powerful special shooting ability in front of the goal, the player can try to pass to the teammate for a chance to score, or can try to dribble to break past the defender. The opponent must choose to either block the potential pass with a pass cut or tackle the ball handler to prevent him from dribbling through.

A matchup in Captain Tsubasa

Source: Shared Research screen capture

Character development

Characters (soccer players) have one of four rarity values: N (normal), R (rare), SR (super rare), SSR (specially super rare). The probability of obtaining a character from a gacha roll decreases in proportion to their rarity. Characters with higher rarity have stronger abilities, and players with such characters on their team benefit accordingly during matches. Players can also enhance the abilities of obtained characters through training, evolution, strengthening special moves, or teaching new special moves.

Training: Player can strengthen the abilities of characters through training. This can be done using items such as “Roberto’s Notebooks” or “Coaches” in addition to in-game coins.

Roberto refers to Roberto Hongo, protagonist Tsubasa Ohzora’s mentor. “Roberto’s Notebooks” are tips Roberto gives to Tsubasa on soccer practice methods, tactics, and philosophy.

Using Roberto’s Notebooks on a character increases their level. This allows players to increase the stats of a character’s attack (affects shots and passes), defense (affects blocks and pass cuts), or “physical” (affects all actions). However, a character’s level is capped based on rarity, and it takes evolution (see below) to increase the cap. Using a Coach on a character enhances their offense, defense, or physical ability based on the type of Coach used. Note that each character’s ability values are capped at a certain level. Coins and Roberto’s Notebooks can be obtained by winning matches in story mode, by logging in to the game (awarded once per day), or completing missions in which the player must meet certain conditions within a specified period. Coaches can be obtained by winning matches in player strengthening scenarios, in which players can obtain items related to player strengthening. Player strengthening scenarios include weekly scenarios limited to a certain day of the week, and other special scenarios.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 22 Evolution: A mechanism that raises the rarity of characters that have been strengthened to their level cap by one step and raises the caps on their abilities. Evolving a character reverts their abilities to level 1 (lower than before evolving) so that players must retrain their evolved characters to recover their original pre-evolution abilities. Players can evolve characters with the “Evolution Book” item, which can be obtained by winning player strengthening scenario matches.

Strengthening special moves: Characters’ special moves have set levels that can be raised by combining two characters that have the same special move or by using a strengthening item called a “Black Ball.” Both methods consume coins. Combining two characters (cards) with the same name (same special move) consumes one of the characters (cards). Black Balls can be obtained by completing missions.

Teaching new special moves: Coins are consumed to give each character’s main special move to another character of the same name. If characters of the same name have different rarities, the character with higher rarity will learn the special move of the character with lower rarity.

Even if a character reaches their ability cap after evolving, players can break through the ability limit by using certain items or by “latent evolving,” which some characters are capable of.

The training screen in Captain Tsubasa strengthening special moves

Source: Shared Research screen capture

Team formation

To form a team, the player selects 16 players—11 starting players and 5 substitutes—from the characters they have trained. The 11 starting players are placed in five positions: FW (forward), OMF (offensive midfielder), DMF (defensive midfielder), DF (defense), and GK (goalkeeper). Players can form teams of their favorite characters regardless of the team that the characters belonged to originally or their nationality. This allows players to create a dream team that does not appear in the Captain Tsubasa manga.

Paid play: Dreamballs, pack items, and daily gifts

Players can spend money in three ways: to purchase dreamballs, pack items, or daily gifts.

Dreamballs: “Dreamballs” are items required to roll gacha and can also be used to increase the maximum number of characters held. They cost JPY120 per ball when purchasing one ball, but decrease in price per ball the more the player purchases at once (up to a limit of 175 balls for JPY10,000, or about JPY57 per ball). Rolling a gacha consumes five dreamballs. Players can also get dreamballs free of charge as rewards for winning scenario matches and as login bonuses redeemable once a day. When players attempt to obtain a rare character in a limited-time gacha campaign by rolling a lot of gacha in a short period of time, they will have to purchase dreamballs. In addition, some gacha are limited to purchased dreamballs only. This type of gacha guarantees the player will obtain an SSR character on one of every 10 rolls, making it a good way to obtain high-rarity characters.

Pack items: These are bundles including both dreamballs and character enhancement items. Players can purchase multiple types of packs, with prices ranging from JPY490 to JPY10,000.

Daily gifts: Products where players can get dreamballs and character enhancement items every time they log in to the game for a fixed number of days (either 14 days or 30 days). This is a cheaper way to get items than buying pack items. The days remaining on the regular gift does not go down on days when the player does not log in. Prices range from JPY980 to JPY2,080.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 23 The logic and expertise behind KLab’s game creation

For a mobile game to be successful, it is not enough for it to simply be fun. It is also essential that the basic structure of the game ensures that players will continue to enjoy playing it over a long period of time. It is also necessary for the operating company to use intelligent game management and to set up enticing items so that players will feel they want to spend money on the game.

Psychological devices in Captain Tsubasa

Rarity: The game uses super rare and specially super rare characters (SR and SSR) based on the characters that appear in the Captain Tsubasa manga. The probability of rolling an SSR character from a gacha is 3–5%.

Attachment to the game and the characters: Players increase the level of their characters by using characters obtained through items and gacha. This raises the level of the team and makes it easier for players to do well in online competition and league matches. KLab provides an attractive lineup of characters, updated at regular intervals, including newcomer players and those wearing the uniforms of actual teams active around the world. This mechanism lets players enjoy creating their ideal teams as they repeat the cycle of acquiring new players, training them, and figuring out how to incorporate them into their team.

Desire to achieve goals and progress in the game: People have a desire to work toward and achieve difficult goals. In Captain Tsubasa scenario matches, “Normal” is the only available difficulty setting the first time someone plays the game, which allows players to win at the beginning even with only a partial understanding of the game mechanics. To win after reaching the middle stages of story mode, or in limited-time events, league mode, or online mode, players must gradually improve their understanding of the complex game mechanics as they train their characters and organize their team. The player’s grasp of the game increases their team’s efficacy so that they can win matches.

The fun of getting to control a team: The player selects 16 characters and forms a team. The course of matches change depending on the level and special moves of these characters. Players get to enjoy controlling their team as they actively participate in the game, training their characters and organizing their team in order to win matches.

Desire for recognition: Players gain satisfaction from meeting their desire for recognition when they rank in the top tiers of league mode and online mode, and usually want to maintain their high ranking. In order to do so, players have to either make purchases to acquire rare characters and strengthening items, or improve their playing skills.

KLab’s expertise in game creation

Know-how to reproduce the world of IPs (from anime and manga) in games: By developing a deep understanding of the story of IPs when creating games, the company earns the support of fans of the original IP and has success in turning them into players.

Fans of the IPs greatly enjoy controlling, training (increasing the level of), and forming teams of characters. By developing and operating collectible card games, which have become popular since the early 2010s, the company has accumulated experience and know-how with which it has been able to refine the logic by which these games operate. Shared Research thinks the company excels at devising character training mechanisms (such as unlocking level caps) and skillfully incorporating the personalities of characters from IPs into the games it develops.

Expertise in promoting paid play

The competition with other players and ranking system incentivize players to strengthen their team.

It is necessary for players to roll gacha to add rare characters and further strengthen their team.

It is necessary for players to roll gacha to obtain the items needed to strengthen a character in a short period of time.

Holding limited-time events and other special promotions exposes players to rare characters and items and increases their willingness to pay to obtain them.

Expertise in improving the retention rate

The company offers quest events, login bonuses, and other incentives to encourage players to engage with the game more frequently. It also releases game information on video platforms such as YouTube to build points of contact other than the game apps.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 24 The company regularly sets up opportunities for players to interact with each other by holding real events, increasing their opportunities to play.

Features (strengths)

As mentioned above, the company has been able to create a pattern of success by focusing on collectible card games as its development foundation into which it incorporates the fictional worlds of anime and manga, training elements, and competition elements. It employs this same basic structure across a wide variety of genres including rhythm, action, and sports simulation. Shared Research thinks KLab is able to create games that are likely to be successful by applying this framework to projects using anime and manga IPs. Provided the IPs are from anime and manga that have a wide following around the world, the game development pattern described above should apply overseas as well as in Japan. Therefore, it is possible for the company to secure earnings from its games overseas. Developing games based on the above pattern raises the retention rate by increasing players’ desire to develop characters since they are already attached to them from encountering them in anime and manga.

Features (weaknesses)

Shared Research believes that the pattern of success described above is based on KLab’s continued success with card games since the early 2010s, and that this success has led to weak initiatives at the company to branch out to new genres and new types of games. Games based on company-created IPs have not been successful. Game mechanisms have become complex as a result of adding various mechanisms to encourage players to make purchases. It may be the case that games have become too complex for beginners to be able to figure out how to progress.

Overseas expansion

In FY12/20, 34.9% of KLab’s revenue came from overseas. This figure rivals the 39.7% ratio of GungHo Online Entertainment, and is higher than other competitors in Japan. The company plans, develops, and operates games based on IPs from Japanese anime and manga, which are well-known overseas. KLab takes into account release in overseas markets from the development stage so that it can release games overseas at almost the same time as it does in Japan. In many cases, expanding the area of release is as easy as adding supported languages. Since all game versions are the same under this practice, the need to compartmentalize game operation by region is obviated.

The company is considered a mid-sized Japanese game company in the Asian game market. Major Japanese game companies with presence in the region include BANDAI NAMCO Holdings (TSE1: 7832) and Square Enix (TSE1: 9684). Non-Japanese companies include South Korea’s Netmarble Corporation and China’s Tencent and NetEase.

Accumulation of expertise in development and operation through successes and missteps after expanding overseas ahead of competitors

The company says it took measures to tap overseas markets ahead of competitors after realizing the ease with which mobile games can be distributed overseas via platforms such as the App Store and Google Play.

The company started building its overseas infrastructure in 2012, establishing local subsidiaries in China, the US, and Singapore, and making a Philippine app development company a subsidiary. Through these moves, it built a system of international division of labor in which games planned in Japan and the US were developed at its Philippine subsidiary and published at its Singapore subsidiary. In September 2012, the company’s first overseas-exclusive game, Lord of the Dragons (RPG), was distributed globally. The game changed the setting of the Japanese hit Shin Sengoku Buster from Sengoku Era (Age of Warring States) in Japan to a Western fantasy setting. It made a reasonable contribution to earnings.

Since then, KLab rolled out several games overseas, but none of them has driven performance. In December 2015, the company released Age of Empires: World Domination (strategy game), but the game did not contribute to results, and in FY12/16, KLab recorded the entire amount of the game’s assets as an impairment loss. The company took this as a lesson and in the same year decided to switch from its former system of pairing game development based on global IPs with international division of labor to one focusing on Japanese IPs and development in Japan. It closed its US base and resolved to withdraw from its development base in the Philippines in 2016. Thereafter, the company continued to streamline its overseas subsidiaries, deciding to dissolve its Singapore subsidiary in December 2019. The only remaining overseas subsidiary is KLab China Inc. (see below for details), which plays a central role in expansion into the Chinese market.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 25 Meanwhile, the company continued to expand overseas thereafter, releasing a global version of the action RPG game BLEACH: Brave Souls, based on the Japanese manga and anime BLEACH, in January 2016, and releasing Captain Tsubasa in December 2017. These two games remained company mainstays in FY12/20. As of April 2019, the company has distributed games in up to 155 countries and regions, and offered support for 10 languages.

In building this track record, the company has accumulated the expertise necessary for overseas expansion, including the know-how on game development using well-known IPs, game design with a view to overseas expansion, and operation of games overseas.

Overseas expansion with games based on well-known anime and manga IPs

While competitors who expanded overseas with original IPs failed to create hit games, KLab was able to create hits overseas by developing games based on well-known anime and manga IPs.

Among competitors, Mixi launched Monster Strike overseas in 2014, but Shared Research understands the game did not take root except in some areas. Complex gacha-based game systems developed in Japan had not penetrated the overseas market, and many players were not able to grasp the setting since it was an original IP.

KLab’s overseas expansion was also based on games that used gacha, but its games were based on IPs from well-known anime and manga. As a result, BLEACH: Brave Souls, Captain Tsubasa, and others became hits thanks to a strong support base from fans of the original IPs.

Expertise in game design with a view to overseas expansion and operation of games overseas

The current practice obviates the need to operate games by region, allowing the company to unify Japanese and overseas game operation.

Concerning how it earns revenue, KLab says the ratio of players purchasing gacha, which come with an element of luck, can be low depending on the country and region. The company increases the ratio of players spending on its games by selling packs guaranteed to include certain characters. KLab deploys multiple item-purchasing mechanisms so that it can earn revenue in every region regardless of cultural differences.

KLab China Inc.

KLab China Inc., which the company established in 2012, is at the core of its expansion into China. Regulations prohibit KLab from directly distributing games in China, so it is necessary to do so through local publishers. KLab China’s role is to secure local publishers for the company’s expansion into the Chinese market. The subsidiary also searches for local developers to support the development of games for overseas markets, which KLab plans to focus on in the medium term.

Game development support for games targeting overseas markets: KLab receives a request for game development from a Japanese IP rights holder seeking to earn profits overseas. The company then uses its Chinese base to find overseas developers, and collaborates with these developers to create a game. In these joint projects, KLab mainly handles project management and supervision, with overseas developers in charge of game development and global rollout.

The company has business alliances with several Chinese publishers through KLab China.

In February 2014, it formed a business alliance with Shengqu Games, a Chinese online game giant (formerly Shanda Games; the company changed its name in March 2019). Shengqu Games published Love Live! School Fest in Mainland China, Taiwan, Hong Kong, and Macau. As of June 2020, the company was jointly developing Lapis Re:LiGHTs with Shengqu Games. KLab will handle the release of the Japanese version, and Shengqu Games the Chinese version.

In February 2014, KLab formed a business alliance with Chinese game giant Kunlun, with which it jointly developed BLEACH Kyo・Kai-Tamashinokakusei：Shinigami (released November 2018).

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 26 Value chain and business activities

Value chain

The mobile game value chain consists of customers (players), game planning/development/operating companies (developers), platform operators, publishers, copyright holders, and game development partners.

When a player purchases in-game currency, they pay the platform operator, which in turn pays KLab.

The company pays a commission (platform fees; about 30% of revenue in the case of Google or App) to platform operators. It also compensates game development companies and copyright holders according to services provided and usage contracts.

The role of each member of the value chain is outlined as follows. Granted, the roles that companies play may differ from the following descriptions depending on the situation and the specific characteristics of the companies involved. For instance, there are cases when the planning/development/operating company (developer) also serves as publisher.

Customers (players): Play the game, basically free of charge. Some players purchase in-game currency for gacha and items. Publishers: Plan and promote games. Handle localization (translation, partial specification changes, and legal system compliance) when distributing overseas. They earn revenue when players use in-game currency, from which they pay developers and copyright holders. In many cases, platform operators with many users, copyright owners, or developers serve as the publisher. According to KLab, it publishes most of the games it operates in-house, with a limited number released via outside publishers including the Chinese versions of BLEACH Kyo・Kai- Tamashinokakusei：Shinigami and Captain Tsubasa, as well as Tales of Crestoria. Developers: Develop and operate games. The size of revenue varies depending on the contract, with companies either receiving a fixed sum from publishers or a share of game revenue. KLab develops some games entirely in- house, and develops and operates some games in collaboration with partners (without involving the in-house development line). Platform operators: Operate platforms like the App Store or Google Play. Collect revenue from players and pay the publisher after deducting the platform fee (30% of revenue in the case of the App Store or Google Play). Copyright holders: Own the IP on which the game is based. Receive royalties based on game revenue. Although the rate varies depending on the payee, Shared Research understands KLab pays copyright holders around 20% of revenue on average. Game development partners: The company develops some of its games in collaboration with partner companies to reduce development costs. In some cases, KLab provides funding, development tools, server infrastructure, and other support, and leaves development and operation to partners. In FY03/16, the company closed its Philippine subsidiary, which was in charge of development. It has since carried out in-house development in Japan in addition to working with partners and outsourcing projects to hedge against the possibility of a revenue decline weighing on profits.

The company’s major partners as of December 2020 are as follows.

In February 2014, KLab formed a business alliance with Shengqu Games, a Chinese online game giant. Shengqu Games published Love Live! School Fest in Mainland China, Taiwan, Hong Kong, and Macau. As of June 2020, the two partners were jointly developing Lapis Re:LiGHTs. KLab will handle the release of the Japanese version, and Shengqu Games the Chinese version. In February 2014, KLab formed a business alliance with NHN Entertainment, a major Korean online game company. NHN Entertainment published Love Live! School Fest in Korea. In February 2014, KLab formed a business alliance with Chinese game giant Kunlun, with whom it co-developed BLEACH Kyo・Kai-Tamashinokakusei：Shinigami (released November 2018). KLab entered into a business alliance agreement with Electronic Arts Inc. (EA) in August 2020, with a view to the joint development and operation of mobile games. As of March 2021, the company was developing a sports simulation game based on sports-based IP owned by EA.

Business tasks

Game development involves acquiring IPs, planning and hammering out the game content, and creating prototype, alpha, and beta versions until the final version is created and launched, after which it must be operated.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 27 Acquiring the rights to use IPs

This process involves negotiations with companies, publishers, and anime production committees that own the IP rights. Besides using standard game creation proposals and negotiating with rights holders, KLab invests in anime production committees to acquire the rights to use IPs in its games.

Production committee: An entity formed by a group of corporate investors for the purpose of raising funds to create a video work such as an anime series, a movie, or a TV program. Profits are distributed to the investor companies according to investment ratio.

Development

Large games (those with a development cost of over JPY2.0bn) take about two years to develop with total development expenditure running between JPY1.0–1.5bn. In the case of in-house development, development personnel are supplemented through outsourcing. KLab’s policy is to promote the use of outsourcing to limit profit decline in the event of earnings fluctuations. In addition, KLab has increased the ratio of common development processes since FY12/14 to keep development costs in check. After a game is released, most of the personnel involved in development of the game will handle its operation. Although the ratio varies widely depending on the games under development and the operating status of existing games, about 30% of the company’s employees was development personnel in FY12/20 (as of end-December 2020, game division employees numbered 518).

The company’s development strengths include know-how on building server infrastructure capable of handling large amounts of traffic and on fine-tuning server applications. The company has been able to avoid service outages in the past, even during traffic spikes immediately following the launch of certain games, such as those based on famous IPs, and as a result has yet to incur an opportunity loss due to system-related issues at launch.

Also, the company has production and development expertise for creating mobile massively multiplayer online (MMO) games with 3-D graphics and for simulating dance motions. Love Live! All Stars, which uses 3-D graphics and dance motions, was in the top five games nominated for the Users’ Choice Game award in Google Play’s Best of 2019.

In Google Play’s Best of 2019, Google selects and announces the games, apps, manga, and movies that were popular on the Google Play platform in 2019. In the Users’ Choice section, Google nominated 20 games on which users voted.

Operation

After a game is released, the company checks the following KPIs in real time: number of active users, average revenue per user (ARPU), average revenue per paying user (ARPPU), retention rate (the ratio of users among those who played on a certain day who reopen the game after a fixed number of days), tutorial completion rate (the ratio of players who complete the tutorial at the beginning of the game, which explains the controls), and time required to download data. If these metrics deviate from KLab’s pre-release targets, the company makes adjustments such as retuning the difficulty level and reviewing the UI. The company says roughly 70% of its personnel in FY12/20 were operation personnel (as of end-December 2020, game division employees numbered 518).

Revenue = number of active users × conversion rate × ARPPU The number of active users consists of new players, existing players, and returning players (who have previously left the game). Of these, existing players contribute the most to revenue. The number of existing players = the number of new players in the past × the retention rate The number of new players fluctuates based on the tutorial completion rate and the time required to download data.

Operating the game entails adding new characters, events, and major updates at regular intervals. Events are held over specific periods of time. During events, players cooperate with or compete against each other to score points, and can get event-based rewards according to their score and ranking. The company holds around 20 to 30 events per year for Captain Tsubasa, with each lasting roughly one to two weeks. KPIs such as the number of active users, the conversion rate, and ARPPU skyrocket during events where it is possible to obtain popular characters and limited items. KLab carries out a major update once every few years to add new features and characters and improve the UI.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 28 KLab also holds in-person events for its main games Captain Tsubasa and the Love Live! series. In September 2019, the company held an in-person event for Captain Tsubasa called, “Dream Championship.” The event’s focus was a live match to determine the world’s best player of the game. In-person events for Love Live! include talk shows by voice actresses, competitions between fans, and sales of merchandise. Attendance at the “School Fest Thanksgiving 2019” event held in September 2019 was 20,833. Due to the spread of COVID-19, the company’s “Dream Championship 2020” and “School Fest Thanksgiving 2020” events in 2020 were held online.

Promotional activities to increase awareness of the company’s games include ad network ads, articles on game media outlets, distribution of the company’s original content on its YouTube channel “KLabGames Broadcasting Station,” and exhibitions at events such as Tokyo Game Show. KLabGames Broadcasting Station distributes content worldwide in six languages. In ad network ads, the potential customer base is narrowed down based on data and then targeted to be shown ads. The company rarely uses TV commercials or posts ads in public transportation.

Ad network: A mechanism that collects multiple advertising media such as social media and blogs to form an advertising distribution network and distributes advertisements to those media collectively.

For new games, the company says it increases the number of pre-registrations on its website through promotional activities carried out before release. For existing games, it uses ad network ads to acquire new players and deliver ads to dormant players. KLab advertises to a wider target audience prior to anniversary events and collaborative events with other companies’ IPs.

How players start to play KLab’s games

People come to KLab’s games from ad network ads, reviews on social media, articles on game media outlets, and platform searches such as those on the App Store and Google Play. Increase in recognition due to promotional activities is sufficient to increase the number of players since the games are basically free and require no more than a smartphone to play. In addition, games based on anime or manga IPs tend to have success in attracting fans of those IPs. The segment of players who started playing due to word-of-mouth among players, including on social networking sites, tends to have a relatively high retention rate. Earnings model

Earnings

FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Cons. Cons. Cons. Cons. Cons. Cons. Revenue 20,913 19,600 26,778 32,674 31,110 33,952 YoY -2.2% -6.3% 36.6% 22.0% -4.8% 9.1% Gross profit 6,714 5,192 9,565 10,549 7,031 6,992 YoY -2.2% -22.7% 84.2% 10.3% -33.4% -0.5% Gross profit margin 32.1% 26.5% 35.7% 32.3% 22.6% 20.6% SG&A expenses 4,516 3,917 4,674 5,554 5,357 4,843 YoY -3.9% -13.2% 19.3% 18.8% -3.5% -9.6% SG&A ratio 21.6% 20.0% 17.5% 17.0% 17.2% 14.3% Operating profit 2,198 1,275 4,891 4,995 1,674 2,149 YoY 1.6% -42.0% 283.7% 2.1% -66.5% 28.4% Operating profit margin 10.5% 6.5% 18.3% 15.3% 5.4% 6.3%

Source: Shared Research based on company data

Revenue

Revenue mostly comprises gacha purchases for the games that KLab operates. According to the company, the following three games topped the revenue breakdown by game titles, jointly accounting for 80% of revenue in the Game business in FY12/20:

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 29 Changes in revenue and mainstay games

FY08/10 FY08/11 FY08/12 FY12/13 FY12/14 FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Par. Par. Par. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Total revenue 2,953 5,665 15,210 15,745 21,375 20,913 19,600 26,778 32,674 31,110 33,952 YoY - 91.8% 168.5% 38.0% 38.0% -2.2% -6.3% 36.6% 22.0% -4.8% 9.1% Japan 2,953 5,665 15,210 15,745 20,258 19,060 16,317 21,780 21,167 20,355 22,092 YoY - -5.9% -14.4% 33.5% -2.8% -3.8% 8.5% Overseas - - - - 1,117 1,853 3,283 4,998 11,506 10,755 11,860 YoY - 65.9% 77.2% 52.2% 130.2% -6.5% 10.3%

Source: Shared Research based on company data *The accounting period was 16 months in FY12/13, but FY12/13 revenue in the figures above was calculated based on a 12-month year.

Changes in revenue since 2013

From FY12/15, the Japanese version of BLEACH: Brave Souls (service started in 2015) made contributions. Revenue fell YoY in FY12/15 and FY12/16, however, owing to declines in existing games.

In FY12/13, revenue was JPY21.0bn. However, there were many unprofitable games, which resulted in an operating loss of JPY1.2bn. The company achieved profitability in FY12/14 by reducing the number of personnel and reviewing its development policies, and thanks to Love Live! School Fest (started service in 2013), which drove performance. Love Live! School Fest continued to drive performance through FY12/17.

In FY12/17 and FY12/18, the global version of BLEACH: Brave Souls (service started in 2016) and the Japanese and global versions of Captain Tsubasa (service started in 2017) caused revenue to increase. The contribution of these games helped to diversify the revenue mix.

Revenue per game

Revenue per game is equal to monthly active users (MAU) × conversion rate × average revenue per paying user (ARPPU). However, the company does not disclose these KPIs for fear that doing so could work to the advantage of competitors.

MAU: The number of players per month. MAU gradually decreases after a certain period of time from a game’s release. ARPPU: The average monthly charge per paying user. The company says it varies greatly depending on the game, but is in the range of several thousand yen to several tens of thousands of yen.

Change in revenue per game

According to KLab, monthly game revenue by country has gradually declined each year. To maintain or increase revenue, the company regularly holds anniversary events and sponsors campaigns that leverage the appeal of IPs, in addition to adding global versions and supported languages.

KLab’s revenue was heavily reliant on Love Live! School Fest from FY12/13 to FY12/15. However, the source of revenue has diversified since FY12/16 as the global version of BLEACH: Brave Souls and the Japanese and global versions of Captain Tsubasa contributed to earnings. In the medium term, the company plans to increase revenue by releasing one or two games

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 30 (other than casual games) every year while suppressing the decline in revenue of existing games by adding supported languages for global versions and improving game operation (see “Medium- to long-term outlook” for details).

Differences in how revenue is recorded for in-house versus outside publisher releases

The way revenue is recorded depends on whether a game is released in-house or via a publisher. In the case of an in-house release, KLab records the entire amount of game revenue as revenue, with royalties (for copyrighted IPs) and platform fees recorded as cost of revenue. When releasing through a publisher, game revenue less platform fees and publisher revenue is recorded as KLab’s revenue, and royalties are recorded as cost of revenue. According to KLab, most of the games it operates are released in-house, with release via publisher limited to BLEACH Kyo・Kai-Tamashinokakusei：Shinigami, the Chinese version of Captain Tsubasa, Tales of Crestoria, and a few others.

Publisher: In addition to promotion, publishers handle localization (translation, legal compliance, and other tasks) when distributing games overseas.

Timing of the booking of revenue

Purchases of in-game currency are recorded on the company’s balance sheet as advances received, which will be booked as revenue once the in-game currency is used.

Expenses (cost of revenue and SG&A expenses)

Cost structure

KLab’s cost of revenue ratio is affected by labor and outsourcing costs, and transfer to other accounts through which development expenditures for new games are capitalized (recorded as assets on the balance sheet). In FY12/20, the ratio of labor and outsourcing costs to Game business revenue was 26.4%. Royalties/commissions are another significant item in cost of revenue, accounting for 48.0% of Game business revenue in FY12/20.

Fees paid to IP rights holders are recorded as royalties. Fees paid for the use of app distribution platforms such as those of Google and Apple are recorded as commissions. From FY12/16 to FY12/20, the ratio of royalties/commissions to Game business revenue hovered around 50%.

The ratio of labor costs and outsourcing costs to Game business revenue was 17.2% in FY12/15, but 26.4% in FY12/20. Development and operation costs per game increased as games became higher in quality with the transition to 3-D graphics and other improvements.

In its parent-only results, KLab discloses the details of cost of revenue and SG&A expenses. Shared Research understands that the consolidated cost structure is similar to the parent company’s cost structure given that there is a relatively small difference between consolidated and parent-only results (in FY12/20 a difference in revenue of JPY330mn, cost of revenue of JPY175mn, and SG&A expenses of JPY109mn). Below, we look at the parent company’s cost of revenue and SG&A expenses to describe KLab’s earnings structure.

Cost of revenue and SG&A expenses

FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Cons. Cons. Cons. Cons. Cons. Cons. Cost of revenue 14,199 14,408 17,212 22,125 24,079 26,960 Cost ratio 67.9% 73.5% 64.3% 67.7% 77.4% 79.4% Labor costs 2,781 2,630 2,683 3,337 3,899 4,048 % of Game revenue 13.3% 13.6% 10.1% 10.3% 12.7% 12.1% Outsourcing costs/Outsourcing costs 813 1,430 2,321 4,598 4,730 4,829 % of Game revenue 3.9% 7.4% 8.7% 14.2% 15.4% 14.4% Royalties and commission fees 10,567 9,830 12,939 15,724 14,964 16,117 % of Game revenue 50.6% 51.0% 48.6% 48.6% 48.7% 48.0% % of cost of revenue 74.4% 68.2% 75.2% 71.1% 62.1% 59.8% Other 1,545 2,289 1,687 2,216 3,359 3,318 Transfer to other accounts -1,507 -1,771 -2,418 -3,750 -2,873 -1,352 SG&A expenses 4,516 3,917 4,674 5,554 5,357 4,843 SG&A ratio 21.6% 20.0% 17.5% 17.0% 17.2% 14.3% Salaries and allowances 1,181 1,081 872 1,013 1,146 1,098 Advertising expenses 1,733 1,344 1,999 2,593 2,354 2,105 % of revenue 8.3% 6.9% 7.5% 7.9% 7.6% 6.2% Other 1,597 1,487 1,798 1,942 1,851 1,633

Source: Shared Research based on company data

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 31 Parent company earnings

FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Par. Par. Par. Par. Par. Par. Revenue 19,876 19,340 26,628 32,396 30,802 33,622 YoY -1.7% -2.7% 37.7% 21.7% -4.9% 9.2% Cons.- Parent difference 1,037 260 150 278 308 330 Cost of revenue 13,897 13,954 17,150 21,983 23,837 26,785 Cons.- Parent difference 302 454 62 142 243 175 Gross profit 5,979 5,386 9,478 10,413 6,966 6,837 YoY -11.4% -9.9% 76.0% 9.9% -33.1% -1.8% Gross profit margin 30.1% 27.9% 35.6% 32.1% 22.6% 20.3% Cons.- Parent difference 735 -194 87 136 65 155 SG&A expenses 3,862 3,765 4,531 5,385 5,199 4,733 SG&A ratio 19.4% 19.5% 17.0% 16.6% 16.9% 14.1% Cons.- Parent difference 654 152 144 169 158 109 Operating profit 2,117 1,621 4,947 5,028 1,767 2,104 YoY -18.7% -23.4% 205.2% 1.6% -64.9% 19.1% Operating profit margin 10.7% 8.4% 18.6% 15.5% 5.7% 6.3% Cons.- Parent difference 81 -346 -56 -33 -93 46

Source: Shared Research based on company data

Cost of revenue (parent)

In FY12/20, the commissions-to-revenue ratio was 27.5%, the royalties-to-revenue ratio was 20.4%, the labor cost-to-revenue ratio was 11.1%, the outsourcing cost-to-revenue ratio was 19.0%, and the other expenses-to-revenue ratio was 9.5%. In addition, the ratio of transfer to other accounts to revenue was 4.0%.

Commissions (parent)

Commissions are platform fees for the use of app distribution platforms such as those of Google and Apple. When KLab conducts in-house releases (i.e., does not employ an outside publisher), it pays about 30% of game revenue (in the case of Google and Apple) to the operator of the app store.

Royalties (parent)

Royalties are fees charged by IP rights holders. The company pays royalties to IP rights holders at a rate determined in advance based on revenue generated. Unlike games based on company-created IPs, games using other companies’ IPs necessitate the payment of royalties. On the positive side, when using other companies’ IPs, KLab can expect a certain amount of revenue from existing fans, and can curtail advertising expenses due to the recognition of these IPs.

Labor costs (parent)

Labor costs are costs for internal personnel, mainly engineers who develop and operate games. KLab’s policy calls for promoting the use of outsourcing to keep employee numbers from rising too high, thereby limiting the potential for profit slumps due to fluctuations in performance. However, due to rising development costs stemming from the increasingly high quality of games, labor costs were JPY3.7bn in FY12/20 (+12.3% CAGR since FY12/16). Labor costs incurred for the development of games before their release are capitalized as software in progress via transfer to other accounts.

According to KLab, the percentage of labor costs accounted for by development costs versus operating costs fluctuates greatly depending on the status of game development and the operation status of existing games. In FY12/20, the breakdown was roughly 30% development costs to 70% operating costs.

Number of employees

FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 No. of employees (consolidated) 791 632 510 597 646 626 YoY -2.7% -20.1% -19.3% 17.1% 8.2% -3.1% No. of employees (parent) 549 441 460 535 578 559 YoY -5.8% -19.7% 4.3% 16.3% 8.0% -3.3% Average salary (JPY'000) 4,964 5,324 5,546 5,703 5,786 5,924

Source: Shared Research based on company data

Outsourcing costs (parent)

Outsourcing costs include those for illustrators, voice actors, external engineers, and other personnel involved in game development and operation. They also include payments to game development companies for development work. Outsourcing costs were JPY5.1bn in FY12/20 (+35.4% from FY12/16), and the ratio of outsourcing costs to Game business revenue was 15.2% in FY12/20 (versus 7.9% in FY12/16). The increase since FY12/16 is due to the above-mentioned increase in development costs per game and the company’s policy of promoting the use of outsourcing.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 32 Change in development policy in FY12/16 from a focus on in-house production to a focus on outsourcing Since 2012, KLab’s game development had been based on an international division of labor in which it planned games based on globally popular IPs in Japan and at a US subsidiary, developed them at a subsidiary in the Philippines, and published them through a Singapore subsidiary. Revenue declined in FY12/15 and FY12/16, however, as there was no game that drove business results. In response, KLab switched to a policy of developing games in Japan based on Japanese IPs in FY12/16. Accordingly, the company decided to close its development subsidiary in the Philippines among other locations, and reduce overseas employee headcount from 242 at end-FY12/15 to 48 at end-FY12/17. The company’s policy is to use outsourcing to supplement the shortages in development personnel created by the reductions, and use outsourcing as much as possible for both jointly developed games and those developed in-house to keep profit declines due to fluctuations in revenue to a minimum.

Other (under other costs; parent)

Depreciation, mainly for game software, accounts for roughly half of “other” under other costs (see table below). For games produced in-house (Love Live! All Stars, Tales of Crestoria, etc.), the development period is about two years and total cost of development ranges from JPY1.0–2.0bn. Regarding the scale of investment, KLab aims to rein in costs by narrowing its focus on genres that have produced a hit in the past and standardizing basic app functions through the development of a common structure. At the same time, the company plans to continuously work on the basic structure common to all KLab games. KLab records its game development expenditures on its balance sheet as software in progress while the games are being developed, but at release, they are transferred to the software account and are amortized. The depreciation period is 24 months, applying the straight-line method.

In FY12/20, costs in “other” were JPY3.2bn (+1.2% YoY). The company recorded depreciation for assets related to Love Live! All Stars, released in September 2019, for four months in FY12/19 but for the full year in FY12/20. The company also began recording depreciation of assets related to Tales of Crestoria, which was released in July 2020. The company also recorded an impairment loss on software assets related to Magatsu, released in April 2019. As a result, depreciation (consolidated basis) in the Game business was JPY1.83bn in FY12/20 (JPY1.78bn in FY12/19).

Transfer to other accounts (parent)

Game development expenditures (labor costs, outsourcing costs, others) before release are capitalized as software in progress via transfer to other accounts rather than being expensed. After release, most of the personnel involved in development will operate the game, so transfer to other accounts will decrease compared to before the release.

Source: Shared Research based on company data

FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Par. Par. Par. Par. Par. Par. Cost of revenue 13,897 13,954 17,150 21,983 23,837 26,785 Cost ratio 69.9% 72.1% 64.4% 67.9% 77.4% 79.7% Labor costs 2,379 2,345 2,482 3,031 3,567 3,724 % of revenue 12.0% 12.1% 9.3% 9.4% 11.6% 11.1% Various costs 13,025 12,887 17,084 22,702 23,143 24,415 Commission expenses 5,261 5,382 7,513 9,248 8,545 9,257 % of revenue 26.5% 27.8% 28.2% 28.5% 27.7% 27.5% Commission fees 4,329 4,381 5,426 6,475 6,420 6,850 % of revenue 21.8% 22.7% 20.4% 20.0% 20.8% 20.4% Outsourcing costs/Outsourcing costs 2,021 1,519 2,559 4,849 5,018 5,110 % of revenue 10.2% 7.9% 9.6% 15.0% 16.3% 15.2% Other 1,414 1,603 1,585 2,129 3,160 3,198 % of revenue 7.1% 8.3% 6.0% 6.6% 10.3% 9.5% Depreciation in Game 352 558 587 967 1,777 1,827 Transfer to other accounts 1,507 1,278 2,417 3,750 2,874 1,354 % of revenue 7.6% 6.6% 9.1% 11.6% 9.3% 4.0% Software in progress 1,159 1,113 2,185 3,593 2,638 1,107 R&D expenses 308 117 164 72 118 193 Advertising expenses 39 45 63 79 91 51 Other 2 3 5 6 26 3 SUM (A+B+C-D) 14,035 13,755 17,834 23,292 23,417 25,121 % of revenue 70.6% 71.1% 67.0% 71.9% 76.0% 74.7% Labor costs (A) 2,379 2,345 2,482 3,031 3,567 3,724 Other costs - Depreciation in Game (B) 12,673 12,328 16,497 21,735 21,366 22,588 Depreciation in Game (5-yr avg.; C) 336 410 454 557 848 1,143 Transfer to other accounts (5-yr avg.; D) 1,353 1,328 1,600 2,030 2,365 2,335

Source: Shared Research based on company data *Depreciation in Games is on a consolidated basis. *Five-year averages are the annual weighted average over five years

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 33 SG&A expenses (parent)

SG&A expenses mainly comprise salaries, allowances, and bonuses, and advertising expenses. Salaries and allowances are management department personnel expenses and have little relationship to revenue. The company keeps advertising expenses around 7–8% of revenue while verifying the effectiveness of advertising on a daily basis. Company policy is to focus advertising spending on its relatively more popular games.

SG&A expenses (parent)

FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Par. Par. Par. Par. Par. Par. SG&A expenses 3,862 3,765 4,531 5,385 5,199 4,733 SG&A ratio 19.4% 19.5% 17.0% 16.6% 16.9% 14.1% Salaries, allowances, and bonuses 693 634 614 703 772 760 Depreciation 18 18 20 26 32 33 Advertising expenses 1,782 1,392 2,040 2,622 2,424 2,150 % of revenue 9.0% 7.2% 7.7% 8.1% 7.9% 6.4% Other 1,369 1,721 1,857 2,033 1,972 1,790

Source: Shared Research based on company data Strengths and weaknesses Strengths

Game development based on popular IPs: It is our understanding that it takes more than fun gameplay for mobile games to be profitable, unlike their console counterparts. Many games based on famous anime and manga generate less profit than developers expect and terminate operations after only a short period of time. It is difficult for mobile games to generate profit without skillfully incorporating various psychological devices that encourage players to make in-game purchases, such as leveraging players’ impulses to collect rare items. KLab has experience in planning and operating games from its years working on collectible card games, which were popular in the first half of the 2010s. Shared Research thinks the company excels at incorporating rare character collection and training elements into its games in a way that encourages players to make purchases. Through the course of developing and continuously operating multiple games, including Love Live! School Fest, which has been in operation for over seven years, KLab has accumulated expertise in inducing players to repeatedly spend on its games for an extended period. From this it has developed formats that can be leveraged in future projects.

Ability to profitably operate games over a long period of time: The company’s main games are Captain Tsubasa, BLEACH: Brave Souls, and Love Live! All Stars. These three titles accounted for 80% of revenue in the Game business in FY12/20. Meanwhile, competitors GungHo Online Entertainment (TSE 1: 3765) and Mixi (TSE1: 2121) are highly reliant on a single game, with 55.2% of the former’s revenue in FY12/20 coming from Puzzle & Dragons, and over 70% of the latter’s revenue in FY03/21 coming from Monster Strike. As time passes since the release of a given mobile game, the number of players tends to decrease, and revenue follows suit (Mixi’s operating profit was JPY89.0bn in FY03/17, but fell to JPY22.9bn, or about one-fourth of that number, in FY03/21). In contrast, KLab operates games over long periods of time, which helps to diversify its revenue over multiple games, and thus makes the company resistant to being strongly affected by the potential dropout of any single one.

Excellent overseas expansion capability: KLab has made efforts to expand overseas ahead of competitors by, for example, releasing overseas-exclusive games starting in the early 2010s. The company plans, develops, and operates games based on Japanese anime and manga that are well known overseas (such as Captain Tsubasa and BLEACH), and is able to sell them in new regions by simply providing additional language support. As of March 2021, it was achieving revenue growth overseas through this approach. KLab’s overseas revenue grew at a CAGR of 45.0% over the five-year period from FY12/15 to FY12/20, and accounted for 34.9% of total revenue in FY12/20. This level rivals GungHo Online Entertainment’s 39.7%, which is higher than other competitors in Japan (Mixi and Colopl do not disclose these figures since they do not yet fall under the disclosure criteria for revenue by region). Weaknesses

The company must shoulder a greater burden than competitors when developing new games due to its relatively small revenue: KLab’s revenue and profits are much smaller than those of competitors GungHo Online Entertainment (revenue of JPY98.8bn and operating profit of JPY30.2bn in FY12/20) and Mixi (revenue of JPY112.2bn and operating profit of JPY17.2bn in FY03/20). According to the company, in FY12/20, new game development required roughly JPY1.0–1.5bn per game. While the cost of developing a new game does not significantly affect performance or cash flow at larger competitors, it presents a significant burden for KLab. To reduce the size of investment needed to produce a new game, the

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 34 company’s policies as of FY12/20 are to promote joint development with external development companies, standardize basic functions within the app through the development of a common structure, and limit projects to genres that have scored hits in the past.

Reluctance to take risks to produce blockbusters: Most of KLab’s games are ranked below 50 in revenue. The company also has yet to produce a big hit that has achieved revenue of over JPY20.0bn and a top-ten revenue ranking. It has a tendency to pursue secure and proven strategies when planning and developing new games due to the sizeable impact of creating a new game on its performance and cash flow, and also because its expertise centers on producing small but long- lasting hits. Shared Research thinks that KLab’s games will therefore continue to reproduce the pattern of success of collectible card games that first appeared in the early 2010s, and that the company will be less likely to create truly innovative games. The cost of developing and operating mobile games is relatively standard whether they are blockbusters or games that will be discontinued after a short period, so the games’ marginal profit (revenue less variable cost) is more or less the same as revenue minus platform fees (approximately 30% of revenue). Thus scoring a big hit game can raise the profit margin although the risk of profit fluctuation becomes greater. KLab’s operating profit margin was 4.6% in FY12/20, while Mixi’s was 15.3% in FY03/20.

A lack of proven ability in developing games based on proprietary IPs: The company’s mainstay products, games based on anime and manga, confer the advantage of lower advertising expenses thanks to the existence of fans of the original anime and manga, which makes it easy to acquire players through word-of-mouth and social media (KLab’s advertising expense-to-revenue ratio was 6.2% in FY12/20, lower than GungHo Online Entertainment’s 9.9% (FY12/20) and Mixi’s 17.4% (FY03/20). However, games using other companies’ IPs necessitate the payment of a royalty of around 20% of revenue. Even taking into consideration the low advertising expense-to-revenue ratio, profit margins are still lower than those of games based on original IPs. KLab excels at planning, developing, and operating games based on existing IPs, but Shared Research thinks that it may be lacking in the know-how required to plan original games from scratch and continuously earn profits from them. Still, the company is trying to develop its own original games. In April 2019, it released Magatsu Wahrheit, a game based on a proprietary IP, but revenue was lower than expected in the first year, and the company recorded an impairment loss of JPY1.3bn for the game in FY12/19. Group companies

As of December 1, 2020, KLab consisted of the parent, four wholly owned subsidiaries, and one equity-method affiliate.

Company name Business Game business: Application publishing KLab Global Pte. Ltd. Established February 2012 (Dissolution and liquidation decided in November 2019) KLab China Inc. Established November 2012 Game business ABASEA Inc. Acquired July 2017 Other Other: Wholly owned subsidiary of ABASEA Inc. Conducts research and Spicemart Inc. Acquired July 2017 consulting related to mobile games. Market and value chain Market overview Global game market

According to a Newzoo study (Global Games Market Report 2020), the market size of the global game software industry is projected to grow from USD146.2bn in 2019 to USD200.8bn in 2023. Of this, mobile games are projected to grow from USD68.5bn in 2019 to USD102.4bn in 2023 (2019–2023 CAGR: 10.6%). Mobile games as a percentage of the game software industry are also projected to increase from 47% in 2019 to 51% in 2023. Meanwhile, console games, the second largest category after mobile games, are projected to grow to USD58.2bn in 2023 (2019–2023 CAGR: 8.3%), and PC games to USD40.2bn in 2023 (2019–2023 CAGR: 3.5%).

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 35 2018 2019 2020 2021 2022 2023 Total market (USDbn) 138.5 145.7 159.4 174.2 187.8 200.8 YoY - 5.2% 9.4% 9.3% 7.8% 6.9% Category, % of total Mobile 45% 47% 48% 50% 50% 51% Console 31% 29% 48% 28% 29% 29% PC 25% 24% 23% 22% 21% 20% Category, % of total Asia-Pacific 48% 47% 48% North America 26% 26% 26% South America 4% 4% 4% EMEA 22% 23% 22%

Source: Shared Research based on Newzoo’s Global Games Market Report 2020

Game market in Japan

According to the JOGA Online Game Market Research Report 2020 by Japan Online Game Association (JOGA), the size of the online game market in Japan in 2019 was JPY1.4tn (+3.3% YoY).

The size of the online game market in Japan in 2018 was JPY1.3tn (+3.7% YoY). Games for smartphones/tablets accounted for JPY1.2tn (-3.0% YoY) of that number, with games for PCs accounting for JPY77.3bn (-7.5% YoY), and social games for feature phones accounting for JPY30.1bn (-20.6% YoY). The market for smartphone/tablet games contracted, and the size of the overall market started to decline. A possible reason behind the decline is the slowdown in player count growth as domestic smartphone penetration stalled. Another factor is the rapid increase in games produced overseas and distributed directly to Japan, most of which are from China.

Online game market in Japan

Source: Shared Research based on JOGA Online Game Market Research Report

Changes in mobile games in Japan

Game formats, graphics, and ways of monetizing mobile games have changed along with improvement in telecommunications network standards and in the graphics and processing power of mobile phones.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 36 Changes in mobile games in Japan

Network Mobile phone Representative games Features ・Unlimited free play, but browser games were the main focus due to the limited Early days of mobile games ・Tsuri Star processing power of mobile phones. 3G Feature phone (Late 2000s) ・Kaito Roya le ・Poor graphics using mostly still ima ges ・Monetization mainly based on the purc hase of in-game items

Transition to more ・Browser games are mainstream widespread use of mobile ・Dragon Collection ・Card games became common d ue to data 4G LTE Smartphone games ・Tanken Driland constraints (Early 2 010s) ・Monetiza tion mainly through gacha ・Native apps are mainstream ・Downloading game data to s martphones Era of mobile game- makes high-definition graphics and fast and 4G LTE ・Puzzle & Dragons centered development Smartphone ・ smooth character movement possible advanced Monster Strike ・ (Since the mid-2010s) Many games making use of smartphones’ tap and swipe functions ・Monetization mainly th rough gacha

・ Tsuri Star (GREE, Inc.): A fishing game in which the player uses their favorite fishing rod to try to catch a variety of fish. ・ Kaito Royale (DeNA Co., Ltd.): Started operation in 2009. Players assume the role of a leader of a band of thieves, complete missions to get money, and battle other players to steal their treasure. Players ultimately try to complete the game by collecting treasure from all around the world. ・ Dragon Collection (Konami Digital Entertainment Co., Ltd.): Started operation in 2010. Players take on the role of an adventurer in the Kingdom of Dragonia and take on quests and battles for hidden treasure while collecting and strengthening monster cards. ・ Tanken Driland (GREE, Inc.): Started operation in 2011. A game in which players use hunter cards, explore dungeons, discover treasure and cards, and battle monsters and bosses. ・ Puzzle & Dragons (GungHo Online Entertainment, Inc.): Started operation in 2012. A puzzle RPG in which players form parties of up to six monsters and go dungeon crawling. Players try to clear dungeons as they match orbs on the puzzle interface to initiate attacks against enemy monsters. ・ Monster Strike (Mixi, Inc.): Started operation in 2013. A game combining RPG elements with drag-based action. Players shoot friendly monsters around an arena like pinballs to take out enemy monsters.

Revenue ranking of mobile games in Japan

Several hundred mobile games are released annually in Japan. According to GameWith, games released in 2020 numbered 405 for iOS (719 in 2019), and 376 for Android (624 in 2019). Despite the large amount of competition, games with a higher revenue ranking have a tendency to continue to rank high. Games ranking in the top-ten in terms of revenue account for 30–40% of total market revenue.

The top-ten games in terms of revenue account for 30–40% of the market: Of the JPY1.4tn (source: Japan Online Game Association [JOGA]) mobile games market (2019), games ranked in the top ten by revenue accounted for JPY404.7bn (source: Famitsu Mobile Game White Paper).

Top games tend to maintain high ranking: Looking at the revenue rankings from 2018 to 2020, Fate/Grand Order (Type Moon), Monster Strike (Mixi), Puzzle & Dragons (GungHo Online Entertainment), and Dragon Ball Z Dokkan Battle (BANDAI NAMCO Entertainment) have maintained high rankings.

From 2018, Chinese company NetEase’s Knives Out was ranked fourth. Games developed and operated by Japanese companies previously dominated the rankings, but Chinese games are now entering the top rankings as well.

Franchises that gained popularity as console games such as Pokémon and Dragon Quest have been reworked into mobile games (Pokémon Go, jointly developed by Niantic, Inc. and The Pokémon Company, and Dragon Quest Walk, jointly developed by Square Enix and Colopl) that rank highly in terms of revenue.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 37 Japan’s mobile games by revenue

2018 2019 Revenue (JPYbn) Revenue (JPYbn) (Jan. 1–Dec. 30, 2018) (Jan. 1–Dec. 31, 2019) 1 Monster Strike 93.3 1 Fate/Grand Order 71.1 2 Fate/Grand Order 88.5 2 Monster Strike 70.9 3 Puzzle & Dragons 48.7 3 Puzzle & Dragons 52.2 4 Knives Out 40.4 4 Knives Out 42.4 5 Dragon Ball Z Dokkan Battle 34.0 5 Dragon Ball Z Dokkan Battle 30.1 6 LINE: Disney Tsum Tsum 27.0 6 Pokémon Go 27.7 7 Grand Blue Fantasy 26.4 7 Professional Baseball Spirits A 26.2 8 Pokémon Go 25.1 8 Grand Blue Fantasy 24.2 9 Jikkyo Pawafuru Puroyakyu 21.9 9 Dragon Quest Walk 23.9 10 Idol Master 20.2 10 LINE: Disney Tsum Tsum 18.7 SUM 425.5 SUM 387.4

2020 Revenue (JPYbn) (Jan. 1–Dec. 31, 2020) 1 Monster Strike 87.2 2 Fate/Grand Order 62.3 3 Puzzle & Dragons 44.3 4 Dragon Quest Walk 41.9 5 Professional Baseball Spirits A 37.0 6 Knives Out 36.6 7 Dragon Ball Z Dokkan Battle 28.1 8 Pokémon Go 25.7 9 Princess Connect ! Re: Dive 21.2 10 Mafia City 20.4 SUM 404.7

Source: Shared Research based on the Famitsu Mobile Game White Paper

Positioning of mobile games in Japan’s amusement market

According to the Leisure White Paper 2020, the domestic leisure market was JPY72.3tn (+0.6% from 2019). Of this, the amusement industry accounted for JPY49tn (+0.1% YoY), with pachinko/pachislot, eating out, bars, bicycle racing, horse racing, and other forms of amusement making up the majority of the market. The market for games, including mobile games, was JPY2.1tn, accounting for only around 4% of the amusement market.

Breakdown of amusement spending in Japan

Market size % of total Pachinko/pachislot 20.0 JPYtn 41% Games 2.1 JPYtn 4% Bicyle and horse races 6.7 JPYtn 14% Eating out, going out for drinks 19.7 JPYtn 40% Karaoke 0.3 JPYtn 1%

Source: Shared Research based on Leisure White Paper 2020

The size of the Japanese smartphone game market was JPY1.2tn in 2019, which is small from the perspective of the amusement industry as a whole. However, as can be seen in the table below, it is one of the few growth areas in the industry, along with video-on-demand and ebooks.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 38 Amusement-related market (JPYtn)

2011 2012 2013 2014 2015 FY2016 FY2017 2018 2019 5-year CAGR Pachinko 25.5 25.7 25.0 24.5 23.2 20.4 21.4 20.7 20.0 -4.0% Restaurant 22.8 23.2 24.0 24.6 25.4 25.5 25.7 25.8 26.0 1.1% Horse 2.3 2.4 2.4 2.5 2.6 2.7 2.7 2.8 3.0 3.7% racing Boat race 0.9 0.9 0.9 1.0 1.0 1.1 1.2 1.4 1.5 9.2% Home video games 0.4 0.4 0.4 0.4 0.3 0.3 0.4 0.4 0.3 -2.3% Smartphone games 0.2 0.3 0.6 0.7 0.9 1.0 1.1 1.2 1.2 10.9% Videos 0.5 0.5 0.5 0.4 0.4 0.4 0.4 0.4 0.3 -5.9% Video-on-demand 0.1 0.1 0.1 0.1 0.1 0.2 0.2 0.2 0.3 17.2% Music 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2 -3.9% Music distribution (paid) 0.1 0.1 0.0 0.0 0.0 0.1 0.1 0.1 0.1 10.1% ebooks 0.1 0.1 0.1 0.1 0.2 0.2 0.3 0.3 0.4 21.6%

Source: Shared research based on company data Main competitors

GungHo Online Entertainment, Mixi, and Colopl are among the top listed companies focusing on mobile games.

Overview of competitors

Operating profit Date established Mainstay games Revenue (JPYmn) Notes (JPYmn)

・Puzzle & Dragons accounts for ・Puzzle & Dragons GungHo Online 55.2% of revenue (FY12/20) July 1998 ・Ragnarok Online 98,844 30,157 Entertainment ・Overseas revenue accoun ts for ・Yo-kai Watch Wo rld 39.7% of revenue Monster Strike acc ounts for over Mixi June 1999 ・Monster Strike 112,171 17,165 60% of revenue (Shared Research estimate) ・Quiz RPG: The World of Mystic Aiming for a business model Wiz Colopl October 2008 45,128 12,250 characterized by steady ・W hite Cat Project accumulation of revenue ・Dragon Quest Wa lk ・Revenue is diversified across ・Captain Tsubasa multiple games KLab August 2000 ・BLEACH: Brave S ouls 33,952 2,149 ・Overseas rev enue accounts for ・Love Live! All Stars 34.9% of revenue

Source: Shared research based on company data

GungHo Online Entertainment, Inc. (TSE1: 3765)

Established in 1998 to host online auctions. Acquired the operating rights in Japan for Ragnarok Online from a South Korean game company and became an online game operator. The company produced a hit with smartphone game Puzzle & Dragons in 2012. The series accounted for 91.5% of revenue in FY12/14, and for 55.2% of revenue in FY12/20.

The company has diversified into overseas markets as evidenced by its revenue breakdown by region: 60.3% in Japan, 34.2% in other Asian countries, and 3.8% in North America.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 39 GungHo Online Entertainment earnings (consolidated)

(JPYmn) FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 Cons. Cons. Cons. Cons. Cons. Revenue 112,457 92,306 92,101 101,392 98,844 YoY -27.1% -17.9% -0.2% 10.1% -2.5% Puzzle & Dragons series 94,837 68,093 55,335 57,735 54,580 YoY -30.7% -28.2% -18.7% 4.3% -5.5% % of total 84.3% 73.8% 60.1% 56.9% 55.2% Other 17,620 24,213 36,766 43,657 44,264 Revenue 112,457 92,306 92,101 101,392 98,844 YoY -27.1% -17.9% -0.2% 10.1% -2.5% Japan 99,600 72,181 59,541 64,680 59,632 YoY -28.9% -27.5% -17.5% 8.6% -7.8% Asia 7,152 14,957 29,263 26,763 33,788 YoY -10.9% 109.1% 95.6% -8.5% 26.2% North America 4,894 4,629 2,967 7,916 3,734 YoY -9.1% -5.4% -35.9% 166.8% -52.8% Other 810 538 328 2,032 1,688 YoY -12.0% -33.6% -39.0% 519.5% -16.9% Cost of revenue 38,822 35,765 42,640 48,168 43,490 Cost ratio 34.5% 38.7% 46.3% 47.5% 44.0% Gross profit 73,635 56,540 49,460 53,223 55,354 YoY -28.7% -23.2% -12.5% 7.6% 4.0% Gross profit margin 65.5% 61.3% 53.7% 52.5% 56.0% SG&A expenses 27,553 22,155 22,883 24,874 25,196 YoY -10.9% -19.6% 3.3% 8.7% 1.3% SG&A ratio 24.5% 24.0% 24.8% 24.5% 25.5% Salaries and allowances 3,638 3,582 3,649 3,590 3,980 Advertising expenses 14,973 10,224 9,760 11,165 9,773 % of sales 13.3% 11.1% 10.6% 11.0% 9.9% % of SG&A expenses 54.3% 46.1% 42.7% 44.9% 38.8% Outsourcing costs 2,333 2,784 3,437 Operating profit 46,081 34,384 26,577 28,349 30,157 YoY -36.4% -25.4% -22.7% 6.7% 6.4% Operating profit margin 41.0% 37.3% 28.9% 28.0% 30.5% Purchase of intangible/tangible fixed assets 2,545 1,415 2,267 3,838 2,639 Depreciation 2,445 1,175 1,263 954 1,950

Source: Shared Research based on GungHo Online Entertainment data Note: Figures may differ from company materials due to differences in rounding methods.

GungHo Online Entertainment earnings (parent)

(JPYmn) FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 Parent Parent Parent Parent Parent Revenue 105,435 76,575 62,340 67,870 62,643 YoY -29.0% -27.4% -18.6% 8.9% -7.7% Cost of revenue 34,717 25,274 21,027 24,981 23,224 Cost ratio 32.9% 33.0% 33.7% 36.8% 37.1% Royalties 2,183 2,230 2,237 4,588 3,834 % of revenue 2.1% 2.9% 3.6% 6.8% 6.1% Depreciation 1,323 544 467 341 1,043 Commission expenses 30,473 22,082 17,966 19,661 18,131 % of revenue 28.9% 28.8% 28.8% 29.0% 28.9% Gross profit 70,717 51,300 41,312 42,888 39,419 YoY -30.7% -27.5% -19.5% 3.8% -8.1% Gross profit margin 67.1% 67.0% 66.3% 63.2% 62.9% SG&A expenses 23,087 17,308 17,406 18,743 16,301 YoY -12.8% -25.0% 0.6% 7.7% -13.0% SG&A ratio 21.9% 22.6% 27.9% 27.6% 26.0% Salaries and allowances 2,315 2,320 2,255 2,309 2,633 Advertising expenses 13,944 8,255 8,088 9,277 6,390 % of sales 13.2% 10.8% 13.0% 13.7% 10.2% % of SG&A expenses 60.4% 47.7% 46.5% 49.5% 39.2% Outsourcing costs 2,487 2,643 2,680 2,763 3,396 Operating profit 47,629 33,991 23,906 24,144 23,117 YoY -36.9% -28.6% -29.7% 1.0% -4.3% Operating profit margin 45.2% 44.4% 38.3% 35.6% 36.9%

Source: Shared Research based on GungHo Online Entertainment data Note: Figures may differ from company materials due to differences in rounding methods.

Mixi, Inc. (TSE1: 2121)

Established in June 1999. Started operation of an eponymous social networking site in February 2004.

The Digital Entertainment segment (84.3% of revenue in FY03/21 and 114.7% of operating profit) became the company’s mainstay business after it scored a hit with smartphone game Monster Strike, which began service in 2013.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 40 Mixi earnings (consolidated)

(JPYmn) FY03/17 FY03/18 FY03/19 FY03/20 FY03/21 Cons. Cons. Cons. Cons. Cons. Revenue 207,161 189,094 144,032 112,171 119,319 YoY -0.8% -8.7% -23.8% -22.1% 6.4% Entertainment 192,703 175,948 138,605 107,218 113,289 YoY -1.4% -8.7% -21.2% -22.6% 5.7% Digital Entertainment 102,039 100,590 YoY - -1.4% % of consolidated sales 91.0% 84.3% Sports 5,177 12,699 Lifestyle 14,457 13,146 5,427 4,953 6,030 Cost of revenue 24,147 23,050 20,224 21,292 26,009 Cost ratio 11.7% 12.2% 14.0% 19.0% 21.8% Gross profit 183,013 166,043 123,808 90,878 93,310 YoY -0.6% -9.3% -25.4% -26.6% 2.7% Gross profit margin 88.3% 87.8% 86.0% 81.0% 78.2% SG&A expenses 94,004 93,683 82,774 73,730 70,381 YoY 5.6% -0.3% -11.6% -10.9% -4.5% SG&A ratio 45.4% 49.5% 57.5% 65.7% 59.0% Advertising expenses 20,864 23,593 24,419 19,556 16,033 % of sales 10.1% 12.5% 17.0% 17.4% 13.4% % of SG&A expenses 22.2% 25.2% 29.5% 26.5% 22.8% Payment service costs 59,273 53,634 40,845 29,619 29,897 % of sales 28.6% 28.4% 28.4% 26.4% 25.1% % of SG&A expenses 63.1% 57.3% 49.3% 40.2% 42.5% Operating profit 89,008 72,359 41,033 17,147 22,928 YoY -6.3% -18.7% -43.3% -58.2% 33.7% Operating profit margin 43.0% 38.3% 28.5% 15.3% 19.2% Entertainment 94,267 78,438 51,561 30,729 39,417 YoY -5.5% -16.8% -34.3% -40.4% 28.3% Operating profit margin 48.9% 44.6% 37.2% 28.7% 34.8% Digital Entertainment 33,498 44,764 YoY - 33.6% Operating profit margin 32.8% 44.5% % of consolidated revenue 111.3% 114.7% Sports -2,769 -5,347 Lifestyle 1,806 1,638 -1,690 -620 -398 Adjustments -7,064 -7,717 -8,838 -12,960 -16,090 Purchase of intangible/tangible fixed assets 652 1,660 3,765 9,934 4,798 Depreciation 375 783 1,058 1,482 1,466

Source: Shared Research based on Mixi data Note: Figures may differ from company materials due to differences in rounding methods. In FY03/21, Mixi reclassified its Entertainment Business and Lifestyle Business segments into Digital Entertainment Business, Sports Business, and Lifestyle Business segments. Five consolidated subsidiaries previously included in the Entertainment Business segment are now included in the Sports Business segment.

Mixi earnings (parent)

(JPYmn) FY03/16 FY03/17 FY03/18 FY03/19 FY03/20 Parent Parent Parent Parent Parent Revenue 199,025 195,756 178,813 141,427 105,495 YoY 86.0% -1.6% -8.7% -20.9% -25.4% Cost of revenue 22,261 21,876 21,405 18,933 18,461 Cost ratio 11.2% 11.2% 12.0% 13.4% 17.5% Labor costs 1,433 1,989 2,124 2,296 2,471 % of revenue 0.7% 1.0% 1.2% 1.6% 2.3% Various costs 19,678 19,699 18,637 15,842 15,333 % of revenue 9.9% 10.1% 10.4% 11.2% 14.5% Outsourcing costs 18,367 18,505 16,961 13,921 13,331 % of revenue 9.2% 9.5% 9.5% 9.8% 12.6% Rent 852 778 1,149 1,338 1,445 Payments for content 127 126 104 67 64 Depreciation 101 92 164 241 259 Gross profit 176,764 173,879 157,408 122,494 87,034 YoY 81.8% -1.6% -9.5% -22.2% -28.9% Gross profit margin 88.8% 88.8% 88.0% 86.6% 82.5% SG&A expenses 80,331 85,516 85,990 79,713 68,705 YoY 77.6% 6.5% 0.6% -7.3% -13.8% SG&A ratio 40.4% 43.7% 48.1% 56.4% 65.1% Advertising expenses 12,690 17,773 20,937 23,170 18,788 % of sales 6.4% 9.1% 11.7% 16.4% 17.8% % of SG&A expenses 15.8% 20.8% 24.3% 29.1% 27.3% Payment service costs 60,141 57,750 51,866 40,538 29,420 % of sales 30.2% 29.5% 29.0% 28.7% 27.9% % of SG&A expenses 74.9% 67.5% 60.3% 50.9% 42.8% Operating profit 96,432 88,363 71,418 42,781 18,328 YoY 85.4% -8.4% -19.2% -40.1% -57.2% Operating profit margin 48.5% 45.1% 39.9% 30.2% 17.4%

Source: Shared Research based on Mixi data Note: Figures may differ from company materials due to differences in rounding methods.

Colopl, Inc. (TSE1: 3668)

In 2003, founder Naruatsu Baba, who had been working for KLab, established Colopl due to the popularity of his location- based game Colony Life, which he started as a side business.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 41 Mainstay games are quiz RPG Wizard and the Black Cat Wiz (started service in 2013), action RPG White Cat Project (started service in 2014), and Dragon Quest Walk (started service in 2019).

By introducing new titles and operating existing titles for long-term service, the company aims for a business model based on steady accumulation of revenue through having a number of games in service simultaneously. Revenue peaked in FY09/16 thanks to the hits The Wizard and the Black Cat Wiz and White Cat Project, and thereafter was on a downward trend. However, the company is regaining ground with the release of Dragon Quest Walk in FY09/20.

Colopl earnings (consolidated)

(JPYmn) FY09/16 FY09/17 FY09/18 FY09/19 FY09/20 Cons. Cons. Cons. Cons. Cons. Revenue 84,730 52,246 45,776 38,920 45,128 YoY 17.0% -38.3% -12.4% -15.0% 16.0% Cost of revenue 37,442 28,449 28,357 26,409 24,275 Cost ratio 44.2% 54.5% 61.9% 67.9% 53.8% Gross profit 47,288 23,796 17,418 12,511 20,853 YoY 10.5% -49.7% -26.8% -28.2% 66.7% Gross profit margin 55.8% 45.5% 38.1% 32.1% 46.2% SG&A expenses 15,432 10,864 10,465 9,558 8,602 YoY 47.4% -29.6% -3.7% -8.7% -10.0% SG&A ratio 18.2% 20.8% 22.9% 24.6% 19.1% Advertising expenses 10,030 4,754 4,966 3,836 2,325 % of sales 11.8% 9.1% 10.8% 9.9% 5.2% % of SG&A expenses 65.0% 43.8% 47.5% 40.1% 27.0% Operating profit 31,855 12,932 6,952 2,952 12,250 YoY -1.4% -59.4% -46.2% -57.5% 315.0% Operating profit margin 37.6% 24.8% 15.2% 7.6% 27.1% Purchase of intangible/tangible fixed assets 556 685 152 240 101 Depreciation 216 204 167 263 508

Source: Shared Research based on COLOPL data Note: Figures may differ from company materials due to differences in rounding methods.

Colopl earnings (parent)

FY09/16 FY09/17 FY09/18 FY09/19 FY09/20 (JPYmn) Parent Parent Parent Parent Parent Revenue 84,009 50,692 43,666 35,880 39,061 YoY 16.0% -39.7% -13.9% -17.8% 8.9% Cost of revenue 36,347 26,985 27,490 25,026 20,368 Cost ratio 43.3% 53.2% 63.0% 69.7% 52.1% Labor costs 3,495 3,932 4,218 4,401 4,820 % of revenue 4.2% 7.8% 9.7% 12.3% 12.3% Other costs 32,630 22,715 23,195 20,417 15,329 % of revenue 38.8% 44.8% 53.1% 56.9% 39.2% Platform usage fees 24,192 14,367 12,466 9,583 6,875 % of revenue 28.8% 28.3% 28.5% 26.7% 17.6% Outsourcing costs 3,484 3,744 4,766 5,611 4,100 Server-related costs 2,727 2,469 1,925 1,377 1,369 Royalties paid 775 701 1,627 997 623 Rents 706 810 901 851 757 Gross profit 47,661 23,706 16,176 10,854 18,693 YoY 11.4% -50.3% -31.8% -32.9% 72.2% Gross profit margin 56.7% 46.8% 37.0% 30.3% 47.9% SG&A expenses 14,027 8,940 8,726 8,105 7,071 YoY 34.0% -36.3% -2.4% -7.1% -12.8% SG&A ratio 16.7% 17.6% 20.0% 22.6% 18.1% Advertising expenses 10,022 4,745 4,981 3,890 2,273 % of revenue 11.9% 9.4% 11.4% 10.8% 5.8% % of SG&A expenses 71.4% 53.1% 57.1% 48.0% 32.1% Operating profit 33,634 14,766 7,449 2,748 11,622 YoY 4.1% -56.1% -49.6% -63.1% 322.9% Operating profit margin 40.0% 29.1% 17.1% 7.7% 29.8%

Source: Shared Research based on Colopl data Note: Figures may differ from company materials due to differences in rounding methods.

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 42 Historical performance Q1 FY12/21 results

Results for Q1 FY12/21 (January–March 2021)

Revenue: JPY6.4bn (-13.8% YoY, -15.8 QoQ) Operating loss: JPY505mn (versus operating profit of JPY37mn in Q1 FY12/20, operating loss of JPY105mn in Q4 FY12/20) Recurring loss: JPY387mn (versus recurring loss of JPY84 in Q1 FY12/20, recurring loss of JPY238mn in Q4 FY12/20) Net loss*: JPY1.4bn (versus net loss of JPY135mn in Q1 FY12/20, net loss of JPY89mn in Q4 FY12/20) * Net loss attributable to owners of the parent

Q1 FY12/21 revenue

By region, revenue in Japan was JPY3.9bn (-22.8% YoY, -21.3% QoQ) and revenue overseas was JPY2.4bn (+5.9% YoY, -5.0% QoQ). In Q1 FY12/21, revenue for most of the existing titles declined due to the absence of anniversary events and major updates. In particular, Love Live! School Idol Festival All Stars (Love Live! All Stars) revenue fell.

Domestic revenue was down YoY and QoQ, mainly due to lower revenue from Love Live! All Stars.

Overseas, YoY revenue was up, driven by the Asian version of BLEACH Brave Souls released in July 2020. QoQ revenue was down, due to smaller contributions from the global and Asian versions of BLEACH Brave Souls.

QoQ performance of major titles was as follows.

Love Live! School Idol Festival (Love Live! School Fest): Revenue from the Japanese version was down; revenue from the global version was flat. BLEACH: Brave Souls: Revenue from the Japanese, global, and Asian versions was down. Captain Tsubasa: Dream Team: There was an anniversary event for the global version in Q4 FY12/20, but QoQ revenue was nonetheless flat QoQ. Revenue from the Japanese version was down. Utano☆Princesama Shining Live: Despite the lower revenue in in Q4 FY12/20 due to the absence of the boost to revenue of an anniversary event, QoQ revenue further increased for both the Japanese and global versions. Love Live! All Stars: Revenue from the Japanese version was down QoQ. Revenue from the global version was flat QoQ. Tales of Crestoria: Revenue from both the Japanese and global versions increased QoQ.

Q1 FY12/21 expenses and profits

KLab recorded an operating loss of JPY505mn (versus operating profit of JPY37mn in Q1 FY12/20, and an operating loss of JPY105mn in Q4 FY12/20). Gross profit was down YoY and QoQ on the decline in revenue. The company recorded the operating loss despite a decrease in SG&A expenses.

Cost of revenue was JPY6.1bn (-1.2% YoY, -6.3% QoQ). In tandem with the decline in revenue, royalties and commissions fell to JPY3.1bn (-15.7% YoY, -12.2% QoQ), while outsourcing costs rose (+10.3% YoY, +4.6% QoQ) to JPY1.3bn due to new game development. Transfer to other accounts, namely labor and outsourcing costs that are transferred to the software in progress account (intangible fixed assets), stood at JPY260mn in Q1 FY12/21 (down from JPY425mn in Q1 FY12/20; up from JPY227mn in Q4 FY12/20). The YoY decrease reflects the July 2020 release of Tales of Crestoria, while the QoQ increase reflects higher development costs for new games.

SG&A expenses were JPY833mn (-32.9% YoY, -31.9% QoQ). The declines reflect in part the absence of anniversary events in Q1 FY12/21; advertising expenses for Q1 were JPY237mn (-56.7% YoY, -57.6% QoQ).

The operating loss resulted in a recurring loss. The company also reported a net loss attributable to owners of the parent due to the booking of a JPY1.5bn impairment loss for Love Live! All Stars and Tales of Crestoria (not recorded in Q1 FY12/20). Software assets are amortized over two years using the straight-line method. Amortization of Love Live! All Stars was scheduled to end in August 2021 and of Tales of Crestoria in June 2022. However, the company decided to record the impairment loss in light of a sharp downturn in revenue from Love Live! All Stars in Q1 FY12/21, and sluggish revenue for Tales of Crestoria brought about by serious bug issues shortly after its release. As a result, depreciation will start to decrease in Q2; the company expects a roughly JPY1.0bn decrease in depreciation for full-year FY12/21.

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 43 Progress versus full-year FY12/21 company forecast

The company revised its full-year FY12/21 earnings forecast in May 2021, providing forecast ranges. Compared with the previous forecast, figures were revised downward by JPY3.0–6.0bn for revenue, JPY200–1,000mn for operating profit, JPY0–800mn for recurring profit, and JPY1.2–1.6bn for net income attributable to owners of the parent. As mentioned above, the revenue was revised downward on sluggish revenue for Love Live! All Stars and Tales of Crestoria, as it fell short of the company forecast. The declines in operating profit and recurring profit follow on from lower revenue, although the company anticipates a decline in depreciation due to an impairment loss and lower expenses due to cost reduction measures currently under consideration. The company made downward revision to the net income forecast as it posted an impairment loss.

In Q1 FY12/21, progress versus the revised upper limit of the revenue forecast was 20.0% (21.9% in Q1 FY12/20 vs. full- year FY12/20) and progress versus the lower limit of the revenue forecast was 23.7%. The company recorded loss at all levels below operating loss.

Topics related to medium-term growth

Developing a media mix for new original IP aopella!?

The company unveiled a new original intellectual property (IP), aopella!?, in March 2021. aopella!? is an original, music- based project combining the themes of youth and a cappella, and features a cast of 11 famous Japanese voice actors. The company is promoting the project through a media mix of music videos of original and J-POP cover songs streamed from its video channel. Subscribers to the project’s official YouTube official had exceeded 120,000 as of May 2021, with over 2.7mn views of its music videos.

The company has typically promoted its original IP works as large-scale media mix projects, including the release of game versions. From FY12/21, its policy is to cultivate IP fans by limiting the media it uses, such as video sites, manga, SNS, without necessarily releasing game versions, and building up a following while gauging user and reader reactions.

PlayStation 4 version of BLEACH: Brave Souls to be distributed

KLab decided to distribute a PlayStation 4 version of BLEACH: Brave Souls, which is positioned as the leading title in the company’s earnings model strategy. This is the company’s first attempt to distribute a game compatible with home video game consoles. Basic play for the PlayStation 4 version, to be distributed through the PlayStation Store, is free. The game will support seven languages: Japanese, English, French, Traditional Chinese, Simplified Chinese, Korean, and Thai.

The company intends to further bolster multi-device and multi-platform compatibility over the medium term. In August 2020, it launched BLEACH: Brave Souls for distribution on PC platform Steam.

Game distribution rights for Touhou Project official spin-off

In April 2021, KLab obtained official licensing from creator Team Shanghai Alice and acquired worldwide distribution rights, including Japan, for a Touhou Project spin-off shoot ’em up mobile game. The company is jointly developing the game with Shanghai-based Dobala Games. In overseas game development support projects like this one, KLab primarily manages and supervises the project, and shares revenue with the overseas developer. The company reports that such projects generate less revenue than its mainstay in-house developed games but carry higher profit margins. Pre-registration for the Simplified Chinese version of the game started in April 2021.

Acquisition of all shares of GlobalGear, conversion into consolidated subsidiary

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 44 Operating results and financial position of GlobalGear

Source: Shared Research based on company data Full-year FY12/20 results

Revenue: JPY34.0bn (+9.1% YoY) Operating profit: JPY2.1bn (+28.4% YoY) Recurring profit: JPY1.6bn (-3.7% YoY) Net income*: JPY767mn (+99.9% YoY) * Net income attributable to owners of the parent

FY12/20 revenue

By region, revenue in Japan was JPY22.1bn (+8.5% YoY) and revenue overseas was JPY11.9bn (+10.3% YoY). In addition to higher revenues of BLEACH: Brave Souls and Captain Tsubasa, the contribution of new titles, including Love Live! All Stars and Tales of Crestoria led to YoY revenue growth. While it has been six years since the launch of BLEACH: Brave Souls, the title achieved its highest-ever annual sales in FY12/20 thanks to firm demand from the beginning of the year and the addition of new areas of distribution.

Domestic revenue improved YoY on enhanced revenue from BLEACH Brave Souls and the contribution from new title Love Live! School Idol Festival All Stars (hereafter Love Live! All Stars), which was released in September 2019. Tales of Crestoria, which was launched in July 2020 also contributed to the improvement in revenue.

Overseas revenue also improved YoY amid enhanced revenue from BLEACH Brave Souls and Captain Tsubasa: Dream Team (hereafter Captain Tsubasa). The global version of Tales of Crestoria, which was launched at the same time as the domestic version, also contributed to revenue.

FY12/20 expenses and profits

Operating profit was JPY2.1bn (+28.4% YoY). Gross profit fell YoY as a decline in transfer to other accounts outweighed sales growth, but operating profit grew on lower SG&A expenses.

Cost of revenue was JPY27.0bn (+12.0% YoY). Royalties and commissions reached JPY16.1bn (+7.7% YoY) in line with the expansion in revenue. Transfer to other accounts fell from JPY2.9bn in FY12/19 to JPY1.4bn FY12/20. The change stems from the release of Love Live! All Stars and Tales of Crestoria, which led to the drop in labor and outsourcing costs that are transferred to the software in progress account (intangible fixed assets) during game development.

SG&A expenses were JPY4.8bn (-9.6% YoY). PR and promotions costs were JPY2.1bn (-10.6% YoY) and costs under the Other category were JPY1.6bn (-11.8% YoY). The company aired TV commercials just after the release of Love Live! All Stars in FY12/19, but did not engage in similar advertising campaigns in FY12/20. The decline in Other costs reflected a reduction in goodwill on the booking of impairment losses at Spicemart, as well as lower travel and supply costs due to the effects from the COVID-19 pandemic.

Despite higher operating profit, recurring profit fell due to JPY671mn in forex losses (JPY135mn in FY12/19).

Net income attributable to owners of the parent rose YoY due to lower impairment losses. The company booked impairment losses of JPY1.3bn on Magatsu and other assets in FY12/19 and another JPY600mn mainly at subsidiary Spicemart in

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 45 FY12/20. Spicemart's main business has been the development of overseas publishers and development partners, but the company revised its structure to promote this business on a group-wide basis. Spicemart plans to focus on the game market research business moving forward.

Achievement rates versus full-year FY12/20 company forecast

The company revised its full-year FY12/20 earnings forecast in November 2020. With revenue in Q3 (July–September 2020) FY12/20 exceeding KLab’s prior forecast on continued strength in existing titles, the company has placed its revised revenue forecast at the upper end of the previous target range. The company expects profit from the operating line down to be within the previous target ranges.

Achievement rates in FY12/20 versus the company’s revised full-year forecasts were 97.0% for sales, 86.0% for operating profit, 78.2% for recurring profit, and 85.2% for net income attributable to owners of the parent. In Q4, sales from the anniversary event for the global version of Captain Tsubasa fell short of the company’s expectations, with sales and profit both coming in below management’s revised forecasts. Earnings also suffered in comparison to the company’s forecast on the Q4 FY12/20 reactionary decline to last year’s anniversary event for BLEACH: Brave Souls exceeding the company’s expectations and a deterioration in earnings from Tales of Crestoria.

Q4 FY12/20 (October-December 2020) results

Revenue: JPY7.6bn (-13.1% YoY, -27.1% QoQ) Operating loss: JPY105mn (loss of JPY37mn in Q4 FY12/19, profit of JPY1.5bn in Q3 FY12/20) Recurring loss: JPY238mn (profit of JPY57mn in Q4 FY12/19, profit of JPY1.2bn in Q3 FY12/20) Net loss*: JPY89mn (net loss of JPY832mn in Q4 FY12/19, net income of JPY840mn in Q3 FY12/20) * Net income/loss attributable to owners of the parent

Q4 FY12/20 revenue

By region, revenue in Japan was JPY5.0bn (-17.2% YoY; -24.9% QoQ) and revenue overseas was JPY2.6bn (-3.8% YoY; -31.0% QoQ).

YoY performance in Japan and overseas was bolstered somewhat by the contribution from new title Tales of Crestoria.

Sales declined QoQ mainly on a downturn in sales for Tales of Crestoria and BLEACH: Brave Souls. Q4 revenue for the Japanese and global versions of Love Live! School Fest and the global version of Love Live! All Stars remained largely flat versus Q3. Revenue for other key titles was down QoQ.

QoQ performance of mainstay games:

Love Live! School Fest: Revenue for both the Japanese and global versions was flat QoQ. BLEACH: Brave Souls: Revenue for the Japanese version and global version fell QoQ. This reflected a falloff against a boost in Q3 FY12/20 thanks to a fifth-year anniversary campaign. Revenue for the Asian version also declined QoQ. Captain Tsubasa: Revenue for both the Japanese and global versions fell QoQ despite a major update. Love Live! All Stars: Revenue for the Japanese version was down QoQ in a drop-off following a first-year anniversary campaign in Q3. Revenue for the global version was steady QoQ. Tales of Crestoria: Although revenue was strong immediately after its release in July 2020, it fell QoQ in 4Q.

Q4 FY12/20 expenses and losses

Operating loss was JPY105mn (loss of JPY37mn in Q4 FY12/19, profit of JPY1.5bn in Q3 FY12/20). Due to lower revenue, gross profit fell both YoY and QoQ to JPY1.1bn (-10.6% YoY; -15.0% QoQ). Although revenue fell, labor and outsourcing costs increased both YoY and QoQ and GPM finished at 14.8% (-2.3pp YoY; -12.1pp QoQ).

Cost of revenue was JPY6.5bn (-10.6% YoY; -15.0% QoQ). Reflecting the lower revenue, royalties and commissions were JPY3.5bn (-18.4% YoY; -25.1% QoQ), but labor costs were JPY1.0bn (+1.0% YoY; +0.8% QoQ) and outsourcing costs were JPY1.3bn (+9.7% YoY; +2.8% QoQ).

SG&A expenses were JPY1.3bn (+3.4% YoY; +20.6% QoQ). Advertising expenses rose as a result of running anniversary promotional campaigns for four titles, including BLEACH: Brave Souls and Love Live! All Stars.

The company posted a recurring loss as the operating loss widened YoY. The net loss attributable to owners of the parent narrowed YoY as the company posted an extraordinary loss of JPY100mn in Q4 versus JPY1.3bn in Q4 FY12/19. The

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 46 company posted losses from the recurring line downward due to the operating loss, versus profits in the previous quarter.

Topics related to medium-term growth

Expansion of BLEACH: Brave Souls distribution regions and distribution platforms

In July 2020, KLab expanded the distribution of BLEACH: Brave Souls to Asian regions outside of mainland China including Hong Kong, Macau, Taiwan, South Korea, Southeast Asia, and South Asia. As a result, users increased with total downloads exceeding 55mn. In August, KLab launched BLEACH: Brave Souls for global distribution on PC platform Steam. The company intends to further expand earnings in existing games by bolstering multi-device and multi-platform compatibility.

Conclusion of a business alliance agreement with Electronic Arts Inc.

KLab entered into a business alliance agreement with Electronic Arts Inc. (EA) in August 2020, with a view to the joint development and operation of mobile games. As of March 2021, the company was developing a sports simulation game based on related IP owned by EA. Shared Research is of the understanding that the success of the global versions of Captain Tsubasa and BLEACH: Brave Souls contributed to the tie-up with EA, one of the world’s largest game publishers.

Acquisition of game distribution rights for JoJo’s Bizarre Adventure

In August 2020, KLab acquired the mobile game distribution rights for the JoJo’s Bizarre Adventure anime series from its production committee. The rights cover distribution in mainland China, Taiwan, Hong Kong, and Macau. JoJo’s Bizarre Adventure is one of the IPs KLab will handle as an overseas game development support project. The company will collaborate with Shengqu Games in the development and distribution of the game’s simplified and traditional Chinese versions, with KLab mainly in charge of project management and supervision, and Shengqu responsible for game development and global rollout. In operation supporting overseas game development, the company is mainly responsible for project management and supervision. With overseas game development support, revenue share depends on game revenue. According to KLab, overseas game development support makes less of a contribution to revenue than the main games developed in-house, but the profit margin is high. The company in December 2020 launched a website for the simplified Chinese version of JoJo’s Bizarre Adventure.

Securing the rights to make a game based on the Is It Wrong to Try to Pick Up Girls in a Dungeon? animation series

The company aims to develop a new PC and mobile game for global distribution based on the Is It Wrong to Try to Pick Up Girls in a Dungeon? animation series under license from IP holder DanMachi4 Project. Development will be conducted in partnership with Aiming (TSE Mothers: 3911), with the company releasing the game on its own without going through a publisher.

The Is It Wrong to Try to Pick Up Girls in a Dungeon? animation series is based on the Fujino Omori novel series of the same name launched in 2013 and published by GA Bunko (SB Creative). The first season of the animation series was aired in 2015, with the fourth season scheduled to air in 2022. The novel series has sold about 1.2mn copies.

Cumulative Q3 FY12/20 results

Revenue: JPY26.4bn (+17.8% YoY) Operating profit: JPY2.3bn (+31.7% YoY)

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 47 Recurring profit: JPY1.8bn (+14.9% YoY) Net income*: JPY856mn (-29.6% YoY) * Net income attributable to owners of the parent

Cumulative Q3 FY12/20 revenue

By region, revenue in Japan was JPY17.1bn (+19.4% YoY) and revenue overseas was JPY9.3bn (+15.0% YoY)

Cumulative Q3 FY12/20 expenses and profits

Operating profit was JPY2.3bn (+31.7% YoY). Operating profit grew thanks to the revenue growth and reduced SG&A expenses despite an increase in cost of revenue.

Cost of revenue was JPY20.5bn (+21.7% YoY). Royalties and commissions reached JPY12.6bn (+18.3% YoY) in line with the expansion in revenue. Transfer to other accounts fell from JPY2.6bn in cumulative Q3 FY12/19 to JPY1.1bn in cumulative Q3 FY12/20. The change stems from the release of Love Live! All Stars and Tales of Crestoria, which led to the drop in labor and outsourcing costs that are transferred to the software in progress account (intangible fixed assets) during game development.

SG&A expenses were JPY3.6bn (-5.5% YoY).

Recurring profit increased thanks to the rise in operating profit, but net income attributable to owners of the parent fell YoY due to the booking of extraordinary losses of JPY500mn. In Q2 FY12/20 (April–June 2020), KLab posted a JPY498mn impairment loss on the goodwill associated with subsidiary Spicemart Inc. Spicemart’s main business was the cultivation of overseas publishers and development partners, but KLab shifted its strategy and decided to have the entire KLab group take part in this business. According to the new plan, Spicemart will be focusing on game market research.

Progress versus full-year FY12/20 company forecast

Versus the revised full-year forecast, cumulative Q3 revenue reached 75.3% (cumulative Q3 FY12/19 revenue reached 71.9% of the full-year result), operating profit reached 90.2% (102.2%), recurring profit reached 90.2% (96.5%), and net income attributable to owners of the parent reached 95.1% (316.8%).

Subtracting cumulative Q3 performance from the company’s full-year FY12/20 targets yields Q4 (October–December) FY12/20 forecast of JPY8.6bn for revenue (-1.1% YoY, -17.0% QoQ) and JPY246mn for operating profit (operating loss of JPY37mn in Q4 FY12/19, -83.6% QoQ).

YoY: While expecting a YoY decline in revenue in Q4, the company anticipates an improvement in operating profit. KLab increased advertising alongside the release of Love Live! All Stars in Q4 FY12/19, but does not expect to do so again in Q4 FY12/20.

QoQ: In Q4, the company expects operating profit to decline QoQ due to a pullback in revenue after a hike driven by anniversary events held for four titles, including BLEACH Brave Souls and Love Live! All Stars, in Q3. Further, after showing strength in Q3, the contribution from Tales of Crestoria appears to be waning in Q4. The company noted that royalties and commissions paid will decrease in line with the decline in revenue, but other costs will likely trend at the same level as seen in Q3.

Q3 FY12/20 (July–September 2020) results

Revenue: JPY10.4bn (+37.6% YoY, +22.1% QoQ)

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 48 Operating profit: JPY1.5bn (+269.1% YoY, +109.5% QoQ) Recurring profit: JPY1.2bn (+239.0% YoY, +89.6% QoQ) Net income*: JPY840mn (+101.4% YoY, +456.9% QoQ) * Net income attributable to owners of the parent

Q3 FY12/20 revenue

By region, revenue in Japan was JPY6.7bn (+34.1% YoY; +26.6% QoQ) and revenue overseas was JPY3.7bn (+44.5% YoY; +14.7% QoQ). Newly released Tales of Crestoria contributed to revenue growth in Japan and overseas.

Japan: QoQ revenue increased for BLEACH: Brave Souls and Love Live! All Stars but declined for Captain Tsubasa.

Overseas: QoQ revenue increased for BLEACH: Brave Souls but fell for Captain Tsubasa and Love Live! All Stars.

QoQ performance of mainstay games:

Love Live! School Fest: Revenue for the Japanese version and global version declined QoQ due to the falloff of contributions from the seventh-year anniversary promotional campaign held in Q2 (April–June 2020). BLEACH: Brave Souls: Revenue for the Japanese version and global version increased QoQ. The number of users expanded due to distribution in new regions. Monthly revenue reached a record high thanks to a successful fifth-year anniversary campaign. Captain Tsubasa: Revenue for the Japanese version and global version was down QoQ due to unfavorable comparisons with Q2 FY12/20, which benefited from the success of the third-year anniversary campaign, although the degree of revenue decline was smaller than a year earlier. Love Live! All Stars: Revenue for the Japanese version was up QoQ, due in part to a successful first-year anniversary campaign that started in mid-September. Revenue for the global version was down slightly QoQ.

Q3 FY12/20 expenses and profits

Operating profit was JPY1.5bn (+269.1% YoY; +86.6% QoQ). Gross profit was JPY2.8bn (+68.4% YoY; +56.1% QoQ) due to the revenue growth, increasing both YoY and QoQ. GPM was 26.9% (+4.9pp YoY; +5.9pp QoQ) because of the robust performance of existing titles and the contribution of newly released Tales of Crestoria. The revenue from Tales of Crestoria depends on overall game revenue and is shared based on a revenue-sharing scheme, with the company’s share determined by its contribution to the game’s development and operation. Since the company does not pay any royalties or commission fees under this scheme, the margin is high despite the relatively small revenue the game generates.

Cost of revenue was JPY7.6bn (+29.0% YoY; +13.0% QoQ). Depreciation increased following the release of Tales of Crestoria, and transfer of costs (a part of cost of revenue) to software in progress account declined. Cost of revenue increased on a YoY and QoQ basis due to royalties and commission fees rising alongside the improvement in revenue, as well as depreciation increasing and the transfer to other accounts declining on the release of Tales of Crestoria and Love Live! All Stars.

Recurring profit and net income attributable to owners of the parent were up YoY and QoQ because of the increase in operating profit.

Balance sheet changes in line with the release of Tales of Crestoria

The company records game development expenditures such as labor and outsourcing costs on its balance sheet as software in progress, but once the game is released, they are transferred to the software account. As of end-Q3 FY12/20, software in progress was down JPY1.5bn from end-Q2 to JPY382mn in line with the release of Tales of Crestoria. On the other hand, despite depreciation, the transfer from software in progress resulted in the software account increasing JPY1.1bn from end- Q2 to JPY2.6bn. Games are recorded as software at the time of release, and are amortized in equal amounts over two years.

Other topics

The company launched pre-registration for the simplified Chinese version of Love Live! All Stars in August 2020. Game operation for the simplified Chinese version is handled by Shengqu Games.

KLab/ 3656

Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 49 Broadcasting of the Love Live! Nijigasaki High School Idol Club, an animated TV program based on the Love Live! series began in October 2020. The program focuses on the Nijigasaki High School Idol Club in the Love Live! All Stars game and had its first broadcast on October 3, 2020. The company is concurrently conducting a tie-in promotion aimed at the Love Live! All Stars users.

BLEACH: Soul Rising services were launched in September 2020. The game is a localized version of BLEACH Kyo ・ Kai- Tamashinokakusei：Shinigami for Japan. The title is run under an overseas game development support model, with game development and distribution handled by Chinese game giant Kunlun and the company providing support. Revenue from BLEACH: Soul Rising is shared based on a revenue-sharing scheme and depends on overall game revenue.

Topics related to medium-term growth

Expansion of BLEACH: Brave Souls distribution regions and distribution platforms

In July 2020, KLab expanded the distribution of BLEACH: Brave Souls to Asian regions outside of mainland China including Hong Kong, Macau, Taiwan, South Korea, Southeast Asia, and South Asia. As a result, users increased with total downloads exceeding 50mn. In August, KLab launched BLEACH: Brave Souls for global distribution on PC platform Steam. The company intends to further expand earnings by positioning BLEACH: Brave Souls as a model case title in its earnings model strategy.

Earnings model strategy: In the medium term, KLab plans to expand earnings from existing games through an earnings model strategy of expanding sales channels and expanding into new areas. In order to expand sales channels for existing games, KLab will undertake global distribution, enable compatibility on multiple devices and platforms, and develop in-house IP anime, CDs, and live events. Expansion into new areas will involve KLab introducing new earnings models such as in-game advertisements and subscription models.

Conclusion of a business alliance agreement with Electronic Arts Inc.

KLab entered into a business alliance agreement with Electronic Arts Inc. (EA) in August 2020, with a view to the joint development and operation of mobile games. The plan is to develop games, using EA’s IP, in genres where KLab has a track record of hits (such as action RPGs, sports, and rhythm action).

Acquisition of game distribution rights for JoJo’s Bizarre Adventure

In August 2020, KLab acquired the mobile game distribution rights for the JoJo’s Bizarre Adventure anime series from its production committee. The rights cover distribution in mainland China, Taiwan, Hong Kong, and Macau. JoJo’s Bizarre Adventure is one of the IPs KLab will handle as an overseas game development support project. The company will collaborate with Shengqu Games in the development and distribution of the game’s simplified and traditional Chinese versions, with KLab mainly in charge of project management and supervision, and Shengqu responsible for game development and global rollout. With overseas game development support, revenue share depends on game revenue. According to KLab, overseas game development support makes less of a contribution to revenue than the main games developed in-house, but the profit margin is high.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 50 1H FY12/20 results

Revenue: JPY15.9bn (+7.7% YoY) Operating profit: JPY754mn (-42.2% YoY) Recurring profit: JPY568mn (-52.8% YoY) Net income*: JPY16mn (-98.0% YoY) * Net income attributable to owners of the parent

1H FY12/20 revenue

By region, revenue in Japan was JPY10.4bn (+11.6% YoY) and revenue overseas was JPY5.6bn (+1.1% YoY).

The YoY increase in Japan was due mainly to the contribution of revenue from Love Live! All Stars, a new title released in September 2019.

Revenue increased YoY overseas with a strong global third-year anniversary campaign for Captain Tsubasa.

1H FY12/20 expenses and profits

Operating profit was JPY754mn (-42.2% YoY). Gross profit fell as the increase in cost of revenue outpaced revenue growth.

Cost of revenue was JPY12.9bn (+17.8% YoY). Royalties and commissions increased in tandem with revenue growth. Transfer to other accounts fell as the labor and outsourcing costs transferred to the software in progress account (intangible fixed assets) during game development declined.

SG&A expenses were JPY2.3bn (-9.9% YoY). Salaries and allowances rose, but advertising expenses and other expenses decreased.

Recurring profit fell due to the decline in operating profit.

Net income attributable to owners of the parent fell due to the booking of extraordinary losses of JPY500mn. Goodwill on the balance sheet decreased as KLab posted a JPY498mn impairment loss on the goodwill associated with subsidiary Spicemart Inc. Spicemart’s main business was the cultivation of overseas publishers and development partners, but KLab shifted its strategy and decided to have the entire KLab group take part in this business. According to the new plan, Spicemart will be focusing on game market research.

Progress versus full-year FY12/20 company forecast

KLab revised its full-year FY12/20 forecast in August 2020. The revised forecast was released as ranges. Versus the previous forecast, the figures were revised down by JPY2.0–4.0bn for revenue and JPY500–550mn for net income attributable to owners of the parent. Operating profit and recurring profit targets remained unchanged. The revised revenue forecast reflects 1H performance of existing titles and the current development status for new titles. The previous targets for operating profit and recurring profit were left unchanged, despite the downward revision to the revenue forecast. The company thinks expenses will undershoot previous expectations, because some of the budgets were left unused as the number of business trips dropped and real events were cancelled due to the COVID-19 outbreak. The cost reduction efforts from the start of FY12/20 are also contributing to the drop in expenses. Meanwhile, the company revised down the forecast for net income attributable to owners of the parent due to the posting of an impairment loss in 1H, as described below.

Versus the upper limit of the range in the revised forecast, 1H FY12/20 revenue reached 44.3% (1H FY12/19 revenue reached 47.6% of full-year FY12/19 result), operating profit reached 25.1% (77.9%), recurring profit reached 18.9% (74.1%), and net income attributable to owners of the parent reached 1.0% (208.2%). Versus the lower limit of the range in the revised forecast, 1H FY12/20 revenue reached 48.3%, operating profit reached 75.4%, recurring profit reached 56.8%, and net income attributable to owners of the parent reached 8.1%.

Company forecast for 2H FY12/20, calculated by subtracting 1H results from the full-year targets, call for revenue of JPY17.1– 20.1bn (+4.6% YoY to +23.0% YoY), operating profit of JPY246mn–2.2bn (-33.2% YoY to +508.6% YoY).

2H FY12/20 revenue assumptions envisage the release in 2H of new titles Tales of Crestoria and Lapis Re:LiGHTs, and multilingual versions of existing titles Magatsu Wahrheit and BLEACH: Soul Rising. The company conservatively forecasts no revenue contribution from the casual games that have been released as prototypes as of August 2020. On the profit front, the company sees several factors putting upward pressure on expenses. These include an increase in operating costs from

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 51 the release of new titles, an increase in labor and recruitment costs associated with personnel expansion, and a decline in transfer to other accounts with the release of major new titles. Meanwhile, the company views cost reduction from its expense control efforts since 1H and a decline in expenditures due to the COVID-19 outbreak (such as cancellation of real events) as factors lowering expenses.

Q2 FY12/20 (April–June 2020) results

Revenue: JPY8.5bn (+2.2% YoY, +14.9% QoQ) Operating profit: JPY716mn (-21.6% YoY, 19x the operating profit of Q1 FY12/20) Recurring profit: JPY652mn (-18.6% YoY, recurring loss of JPY84mn in Q1 FY12/20) Net income*: JPY151mn (-70.0% YoY, net loss of JPY135mn in Q1 FY12/20) * Net income attributable to owners of the parent

Q2 FY12/20 revenue

The revenue breakdown by region was JPY5.3bn in Japan (-1.3% YoY; +3.2% QoQ) and JPY3.3bn overseas (+8.5% YoY; +40.8% QoQ).

Revenue in Japan was up QoQ thanks to contributions from Love Live! School Fest, BLEACH: Brave Souls, and Captain Tsubasa.

Overseas revenue rose QoQ owing to contributions from BLEACH: Brave Souls, Captain Tsubasa, and Love Live! All Stars.

QoQ performance of mainstay games:

Love Live! School Fest: Although overall revenue has been waning in recent years, KLab’s initiatives including the seventh-year anniversary campaign contributed to the QoQ revenue growth of the Japanese version. Revenue for the global version was flat QoQ. BLEACH: Brave Souls: Revenue for the Japanese version and global version increased QoQ, as in-game items continued to sell well and a push in media exposure drove in more players. Captain Tsubasa: The game surpassed 25 million downloads on a steady increase in players. The added contributions of a successful third-year anniversary campaign resulted in QoQ revenue growth for both the Japanese version and global version. Love Live! All Stars: Despite ongoing campaigns and items rollout in coordination with the seventh-year anniversary campaign of Love Live! School Fest, revenue for the Japanese version of Love Live! All Stars fell QoQ. The company released the global version in Q2.

Q2 FY12/20 expenses and profits

Operating profit was JPY716mn (-21.6% YoY; 19x the operating profit of Q1 FY12/20). Operating profit fell YoY, since the revenue increase and lower SG&A expenses were not enough to absorb the rise in cost of revenue. On a QoQ-basis, however, revenue growth and lower SG&A expenses outpaced the increase in cost of revenue.

Cost of revenue was JPY6.7bn (+10.2% YoY; +9.7% QoQ). Cost of revenue rose YoY on an increase in royalty and commission payments accompanying revenue growth, and due to the decline in transfer to other accounts. Cost of revenue also increased QoQ, as lower outsourcing and subcontracting costs—achieved through reduction in order volume and costs per order to illustrators—were not enough to absorb the increase in royalties and commissions.

SG&A expenses were JPY1.1bn (-18.5% YoY; -13.3% QoQ). The QoQ drop was attributable to the absence of the TV commercial expense of Love Live! All Stars incurred in Q1.

Recurring profit and net income were down YoY but increased QoQ, affected by performance at the operating profit level. The company recorded an extraordinary loss of JPY499mn in Q2, mostly due to the goodwill impairment associated with Spicemart.

Topics from Q2 (April–June 2020) onward

Service launch for Tales of Crestoria

The Japanese and global versions of Tales of Crestoria started service in July 2020. There have been over 1mn downloads worldwide, as of August 2020. BANDAI NAMCO Entertainment holds the rights to the IP, and is the publisher, for Tales of

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 52 Crestoria and KLab is in charge of development and operation. Because Tales of Crestoria is not published in-house, KLab books revenue that is net of platform fees and the publisher’s revenue share.

The Tales series is an RPG series released by BANDAI NAMCO Entertainment. The first game in the series, Tales of Phantasia, was released in 1995. As of May 2019, cumulative shipments of the series reached 20mn.

Expansion of BLEACH: Brave Souls distribution regions and distribution platforms

In July 2020, KLab expanded the distribution of BLEACH: Brave Souls to Asian regions outside of mainland China including Hong Kong, Macau, Taiwan, South Korea, Southeast Asia, and South Asia. As a result, users increased with total downloads exceeding 50mn. In August, KLab launched BLEACH: Brave Souls for global distribution on PC platform Steam. The company intends to further expand earnings by positioning BLEACH: Brave Souls as a model case title in its earnings model strategy.

Conclusion of a business alliance agreement with Electronic Arts Inc.

Acquisition of game distribution rights for JoJo’s Bizarre Adventure

In August 2020, KLab acquired the mobile game distribution rights for the JoJo’s Bizarre Adventure anime series from its production committee. The rights cover distribution in mainland China, Taiwan, Hong Kong, and Macau. JoJo’s Bizarre Adventure is one of the IPs KLab will handle as an overseas game development support project. The company will collaborate with Shengqu Games in the development and distribution of the game’s simplified and traditional Chinese versions, with KLab mainly in charge of project management and supervision, and Shengqu responsible for game development and global rollout. With overseas game development support, revenue share depends on game revenue. According to KLab, overseas game development support makes less of a contribution to revenue than the main games developed in-house, but the profit margin is high.

Transfer of Okayama office

In July 2020, KLab undertook a simplified incorporation-type company split for the Okayama office, which is responsible for the development and operation of some of KLab’s game titles. The Okayama office was subsequently succeeded to a newly established company, and all shares in the newly established company were transferred to SAKURASOFT Co., Ltd., in August.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 53 The predecessor to the Okayama office was Media incruise co., Ltd., which became a subsidiary of KLab in September 2012. The Okayama office has been responsible for developing and operating game titles owned by the company, taking advantage of its ability to manage conventional mobile games. Revenue from the Okayama office in the previous period was JPY685mn, and it appears that there will be almost no impact on profit. Income statement

Income statement FY08/11 FY08/12 FY12/13 FY12/14 FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Par. Par. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Revenue 5,665 15,210 20,993 21,375 20,913 19,600 26,778 32,674 31,110 33,952 YoY 91.8% 168.5% - - -2.2% -6.3% 36.6% 22.0% -4.8% 9.1% Cost of revenue 3,386 9,380 16,159 14,512 14,199 14,408 17,212 22,125 24,079 26,960 Gross profit 2,279 5,830 4,835 6,862 6,714 5,192 9,565 10,549 7,031 6,992 YoY 95.2% 155.8% - - -2.2% -22.7% 84.2% 10.3% -33.4% -0.5% Gross profit margin 40.2% 38.3% 23.0% 32.1% 32.1% 26.5% 35.7% 32.3% 22.6% 20.6% SG&A expenses 1,317 3,019 6,058 4,699 4,516 3,917 4,674 5,554 5,357 4,843 SG&A ratio 23.3% 19.8% 28.9% 22.0% 21.6% 20.0% 17.5% 17.0% 17.2% 14.3% Operating profit 962 2,811 -1,224 2,164 2,198 1,275 4,891 4,995 1,674 2,149 YoY 538.7% 192.3% - - 1.6% -42.0% 283.7% 2.1% -66.5% 28.4% Operating profit margin 17.0% 18.5% -5.8% 10.1% 10.5% 6.5% 18.3% 15.3% 5.4% 6.3% Non-operating income 0 13 319 408 87 69 301 85 120 130 Non-operating expenses 11 4 38 8 366 513 339 82 168 715 Recurring profit 951 2,820 -942 2,564 1,919 830 4,854 4,998 1,626 1,565 YoY 624.0% 196.4% - - -25.1% -56.7% 484.5% 3.0% -67.5% -3.7% Recurring profit margin 16.8% 18.5% -4.5% 12.0% 9.2% 4.2% 18.1% 15.3% 5.2% 4.6% Extraordinary gains 18 0 487 19 0 2 51 1 129 2 Extraordinary losses 29 7 1,624 805 330 1,310 108 959 1,303 600 Income taxes 390 1,191 483 -44 892 367 1,668 1,470 142 274 Net income attributable to owners 550 1,623 -2,564 1,793 700 -814 3,127 2,570 384 767 of the parent YoY 162.4% 195.0% - - -60.9% - - -17.8% -85.1% 99.9% Net margin 9.7% 10.7% - 8.4% 3.3% - 11.7% 7.9% 1.2% 2.3%

Source: Shared Research based on company data Notes: Figures may differ from company materials due to differences in rounding methods. FY12/13 was an irregular 16-month period resulting from a change in the company’s accounting period.

See “Earnings model” for a breakdown of earnings from revenue to operating profit. See “History” for past performance.

Non-operating income and expenses

Foreign exchange gains and losses are the main factors in non-operating income/loss.

Non-operating income and expenses

Non-operating income and FY08/11 FY08/12 FY12/13 FY12/14 FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 expenses (JPYmn) Par. Par. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Non-operating income 0 13 319 408 87 69 301 85 120 130 YoY -51.1% - - - -78.6% -21.4% 339.8% -71.8% 41.0% 8.7% Foreign exchange gains - 1 262 291 - - 200 - - - Non-operating expenses 11 4 38 8 366 513 339 82 168 715 YoY -45.0% -59.3% - - - 40.2% -33.9% -75.7% 104.0% 325.6% Foreign exchange losses - - - - 172 389 - 69 135 671

Extraordinary loss

Extraordinary losses are mainly impairment losses for games. The company recorded extraordinary losses of over JPY1.0bn in FY12/13, FY12/16, and FY12/19.

Extraordinary losses

Extraordinary losses FY08/11 FY08/12 FY12/13 FY12/14 FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Par. Par. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Extraordinary losses 29 7 1,624 805 330 1,310 108 959 1,303 600 Impairment losses - - 255 728 328 758 - 178 1,301 551 Business restructuring expenses - - 1,353 ------

Source: Shared Research based on company data

In FY12/13, KLab recorded an impairment loss of JPY255mn and business restructuring expenses of JPY1.4bn, which broke down into JPY867mn of software impairment, JPY325mn of valuation losses due to merger and goodwill write-downs, and JPY160mn of provision for relocation/reduction of bases, and loss on asset retirement. Due to the software impairment, the

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 54 total balance of software assets was only JPY100mn, comprising the games YU ☆ YU ☆ HAKUSHO: Makai Touitsu Saikyou Battle and Love Live! School Fest.

In FY12/16, KLab recorded impairment losses of JPY758mn, loss on liquidation of related companies of JPY252mn, and loss on valuation of investment securities of JPY131mn. The impairment losses were due to the impairment of games Puzzle Wonderland and Age of Empires: World Domination.

In FY12/19, the company booked a JPY1.3bn impairment loss on Magatsu Wahrheit (released April 2019). Balance sheet

Balance sheet FY08/11 FY08/12 FY12/13 FY12/14 FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Par. Par. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Cons. ASSETS Cash and deposits 721 1,862 4,518 7,250 3,634 4,661 6,695 4,749 6,780 8,116 Accounts receivable 1,215 1,752 1,878 2,575 2,067 2,121 3,794 2,393 3,843 3,184 Marketable securities - - - - 1,217 - - - 1,518 503 Deferred tax assets 201 142 227 352 - - - Prepaid expenses 30 109 ------Other -6 -6 -6 490 1,419 909 930 2,103 1,681 1,925 Total current assets 2,113 4,122 6,868 10,516 8,480 7,918 11,771 9,246 13,822 13,728 Buildings (net) 9 182 176 117 146 126 112 135 216 116 Equipment (net) 24 62 110 88 153 169 193 - - - Land ------Other (net) 11 20 15 10 9 6 8 259 234 158 Total tangible fixed assets 44 263 300 216 308 302 313 394 450 274 Software 98 51 548 262 1,391 166 1,206 541 2,195 2,106 Software in progress 466 - 1,113 1,437 3,817 1,264 546 Other intangible assets 1 1 73 57 31 2 848 759 669 117 Total intangible assets 99 51 621 785 1,422 1,281 3,491 5,117 4,128 2,769 Investment securities - - 1 1,309 1,323 1,687 1,959 2,926 3,745 Deferred tax assets 88 190 488 172 83 115 673 1,066 1,323 Guarantee deposits 174 425 600 Other 732 948 1,256 1,239 2,115 1,280 1,654 Allowance for doubtful accounts -6 -6 -29 -6 -258 -2 -2 Total investments and other assets 263 955 908 1,214 2,424 2,633 3,035 4,489 5,270 6,720 Total fixed assets 406 1,269 1,829 2,215 4,154 4,216 6,839 10,000 9,848 9,764 Total assets 2,519 5,391 8,698 12,731 12,633 12,134 18,610 19,245 23,670 23,491 LIABILITIES Accounts payable 138 427 724 1,255 1,094 1,310 2,204 2,315 2,655 2,407 Short-term debt 101 30 2,750 - - - - - 642 742 Provision for bonuses 94 93 92 99 120 133 129 Other current liabilities 845 1,816 1,107 2,244 1,546 1,598 3,733 2,237 1,743 2,625 Total current liabilities 1,084 2,273 4,580 3,593 2,733 3,000 6,036 4,672 5,173 5,903 Long-term debt 117 120 97 60 30 - - 103 1,303 1,004 Other 13 22 12 2 3 3 5 3 - - Total fixed liabilities 130 142 110 62 33 3 5 106 1,303 1,004 Total interest-bearing debt 218 150 2,847 60 30 - - 103 1,944 1,746 Total liabilities 1,214 2,415 4,690 3,655 2,766 3,003 6,041 4,779 6,475 6,907 Net assets Capital stock 584 902 2,748 4,416 4,551 4,572 4,656 4,721 4,821 4,910 Capital surplus 281 598 2,444 4,112 4,247 4,268 4,352 4,582 4,574 4,659 Retained earnings 441 2,063 -571 1,223 1,923 1,084 4,211 5,843 6,227 6,790 Treasury stock - -588 -626 -619 -856 -836 -742 -620 -268 - Accumulated other comprehensive -41 -112 -45 23 72 -76 109 213 income Share subscription rights - 1 45 16 12 20 18 16 14 12 Non-controlling interests - - 9 41 35 - - - 1,717 - Total net assets 1,305 2,976 4,007 9,076 9,867 9,131 12,569 14,467 17,195 16,585 Working capital 1,076 1,325 1,154 1,319 973 811 1,590 78 1,188 777 Total interest-bearing debt 218 150 2,847 60 30 - - 103 1,944 1,746 Net debt -503 -1,712 -1,670 -7,190 -3,604 -4,661 -6,695 -4,646 -4,835 -6,370

Source: Shared Research based on company data Notes: Figures may differ from company materials due to differences in rounding methods.

Assets

KLab has a high ratio of current assets and intangible fixed assets.

Current assets

Current assets are mostly cash and deposits, which stood at JPY8.1bn and accounted for 34.5% of total assets at end- FY12/20.

Accounts receivable accounted for 13.6% of total assets at end-FY12/20. Accounts receivable are mostly for payments from platform operators as players make purchases through platforms such as the App Store and Google Play.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 55 Intangible fixed assets

Intangible fixed assets comprise software, software in progress, and goodwill. The labor costs and outsourcing costs for games before release are capitalized as software in progress and transferred to the software account at the time of release. Games are amortized over two years from their release using the straight-line method.

Liabilities

The only major liabilities are accounts payable and interest-bearing debt.

Accounts payable

Accounts payable are liabilities owed to outside developers and partners in the case of joint development. In FY12/16, the company changed its development policy from one centering on in-house development to one favoring outsourcing, and accounts payable have since trended upward.

Interest-bearing debt

In FY12/20, interest-bearing debt consisted of JPY742mn in the current portion of long-term debt with an average interest rate of 0.33%, and long-term debt of JPY1.0bn with an average interest rate of 0.27%. Since KLab was able to borrow at low interest rates, the company borrowed to strengthen its financial base and maintain its financial soundness while securing the funding to make strategic investments for future business development.

Other

Purchases of in-game currency by players are recorded as liabilities under advances received. This item is transferred to revenue when players spend the in-game currency. If the balance of advances received exceeds JPY10mn at the end of March or September each year, the company notifies the Local Finance Bureau and deposits at least half of the unused balance of in-game currency in an official depository. The company is obligated to refund unused in-game currency to players when it ends service for a given game.

Net assets

Capital stock and capital surplus

The main fundraising activity in the past was through third-party allotment of new shares and issuance of stock acquisition rights in FY12/13 and FY12/14. KLab recorded a net loss of JPY2.6bn in FY12/13 against JPY3.0bn in net assets as of end- FY08/12. This led the company to increase capital through fundraising.

In FY12/13, capital and capital reserves increased by JPY934mn each through the exercise of the Series 1 stock acquisition rights and by JPY907mn each through third-party allotment of new shares, which in part resulted from a capital and business alliance.

In FY12/14, the company raised JPY1.7bn each of capital stock and capital surplus by the exercise of stock acquisition rights.

Retained earnings

Retained earnings are increasing due to the buildup of internal reserves.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 56 Cash flow statement

Cash flow statement FY08/11 FY08/12 FY12/13 FY12/14 FY12/15 FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 (JPYmn) Par. Par. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Cons. Cash flows from operating activities 471 2,260 -1,316 2,825 1,228 1,553 5,073 3,796 1,505 3,975 Pre-tax profit 940 2,813 -2,078 1,777 1,590 -478 4,797 4,040 451 967 Depreciation 53 118 579 383 404 599 618 998 1,816 1,868 Impairment losses - - 255 728 328 758 - 178 1,301 551 Change in accounts receivable -624 -537 -102 -666 346 -54 -1,642 1,387 -1,460 661 Cash flows from investing activities -85 -1,087 -2,507 -912 -4,912 -458 -3,458 -5,111 -2,849 -2,342 Acquisition of investment securities - - - -15 -1,382 -159 -260 -903 -1,174 -715 Purchase of intangible assets -91 -22 -1,965 -850 -1,211 -1,031 -2,052 -3,289 -2,223 -945 Free cash flow (1+2) 386 1,173 -3,823 1,913 -3,683 1,095 1,615 -1,315 -1,344 1,633 Cash flows from financing activities -90 -32 6,363 524 15 49 454 -705 2,855 318 Change in short-term borrowings -200 - 2,750 -2,750 ------Proceeds from long-term 200 150 - - - - - 110 2,300 500 borrowings Repayment of long-term borrowings -17 -183 -65 -42 -30 -30 -45 -7 -459 -699 Dividends paid ------331 - - Proceeds from issuance of shares - 547 3,493 3,151 ------Depreciation and goodwill 53 118 687 404 428 624 664 1,087 1,905 1,868 amortization (A) Capital expenditures (B) -91 -22 -2,199 -832 -1,310 -1,125 -2,227 -3,289 -2,223 -945 Change in working capital (C) 621 249 -171 166 -346 -162 779 -1,512 1,111 -412 Simple FCF (NI + A + B - C) -109 1,470 -3,905 1,200 165 -1,152 785 1,881 -1,045 2,102

Cash flows from operating activities

Cash flow from operating activities is affected by pre-tax profit, depreciation, impairment losses, and increase/decrease in accounts receivables. In FY12/13, the company recorded a pre-tax loss of JPY2.1bn due to poor performance of newly launched games, resulting in negative cash flow from operating activities.

Cash flows from investing activities

Cash flows from investing activities tend to be negative, mainly due to the acquisition of intangible fixed assets associated with game development.

Cash flows from financing activities

Cash flows from financing activities are affected by the payment of dividends and the acquisition of treasury stock. Bank borrowings and equity financing results in cash inflows.

In FY12/13, cash flows from financing activities were positive owing to a JPY2.8bn increase in short-term borrowings and JPY3.5bn in cash provided by issuance of shares.

In FY12/19, cash flows from financing activities were positive owing to a JPY2.3bn increase in long-term borrowings.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 57 Other information History

Date 2000 Jan K Laboratory founded as the research and development wing of Cybird Co., Ltd. 2000 Aug K Laboratory Inc. established as a subsidiary of Cybird Co., Ltd. Changed trade name to KLab Inc. 2004 Nov Cybird sold all of its shares in KLab to USEN Corporation, making KLab a consolidated subsidiary of USEN. 2007 Feb USEN Corporation sold shares in KLab to SBI Holdings and other companies. KLab ceases to be a consolida ted subsidiary of USEN. 2009 Dec KLabGames established to provide social apps. Begins service of Koishite Kyabajou. 2010 Aug Absorbed KLabGames via an absorption-type merger to improve operational efficiency. 2011 Sep Listed on the Mothers market of the Tokyo Stock Exchange. 2011 Dec Established KLab Ventures, Inc. with SBI Investment for the purpose of creating a venture capital/incubation business. 2012 Feb Established KLab Global Pte. Ltd. in Singapore as an app publisher targeting overseas markets. 2012 Apr Established subsidiary KLab America, Inc. in the US to conduct planning and marketing of apps. 2012 Apr Acquired shares in app developer CYSCORPIONS INC. in the Philippines and established KLab Cyscorpions, Inc. 2012 May Changed listing to the First Section of the Tokyo Stock Exchange. 2012 Sep Made Media incruise co, Ltd. a subsidiary. 2012 Nov Established KLab China Inc. in Shanghai, China. 2013 Nov Sold systems integration business and licensing business. 2014 Apr Absorbed Media incruise co., Ltd. via an absorption-type merger. 2015 Aug Established KLab Entertainment, Inc. to conduct an event business and a licensing business. 2015 Oct Established KLab Venture Partners Co., Ltd. (now KVP) to promote the venture capital business. 2016 Aug Established KLab Food & Culture, Inc. (now Japan Food & Culture, Inc.) to promote Japanese food and culture overseas. 2017 Apr Sold all shares in KLab Cyscorpions. Acquired ABASEA Inc. and made it and its subsidiary, Spicemart Inc., which operates a mobile game research and consulting 2017 Jul business, subsidiaries. 2018 Mar Sold all shares of KLab Food & Culture Co., Ltd. 2020 Dec Sold some shares of KVP, removed the company from consolidation. 2021 Apr Made Global Gear Co. Ltd. a subsidiary. Game release timeline

Year of Game title Genre End of service release 2009 Koishite Kyabajou November 2017 Captain Tsubasa: Tsukurou Dream Team Card July 2019 2011 Sangoku Legend MMOR PG Tales of Kizna (op erator: BANDAI NAMCO Entertainment) Card RPG September 2014 Shin Sengoku Buster Card Shinkai no Requiem Card April 2019 YU☆YU☆HAKUSHO : Makai Touitsu Saikyou Battle Card March 2013 YU☆YU☆HAKUSHO: 100%-chuu no 100% Battle Card February 201 9 2012 Sengoku BASARA Card Heroes (operator: Capcom ） Card May 2014 Lord of the Dragons (first overseas-exclusive release) RPG June 2014 Arch Soul（jointly developed with Magic Lamp） Card RPG January 20 14 SLAM DUNK: Mezase! Saikyo Team!! (operator: D eNA/Toei Animation) Card

Dragon Grand: Monster to Yuusha-tachi Card

Love Live! School Idol Festival Rhyth m action In service GIGABOT WARS (overseas-exc lusive release) Battle

2013 Katatema Quest RPG February 2014 Eternal Uprising RPG October 2014 Rise to the Throne (distributed in 161 countries) Strategy February 2014 Pro Yakyuu Grand Slam Sports Transferred November Celestial Craft Fleet Action battle 2018 Crystal Casters (over seas-exclusive release) Puzzle Marc h 2015 Kaburin! RPG 2014 March 2015 Fantastic Eleven Simu lation Transferred August Tales of Asteria (o perator: BANDAI NAMCO Entertainment) RPG 2020 Crystal Fantasia Action RPG June 2015 BLEACH: Brave Souls Action RPG In service Glee Forever! Rhythm acti on May 2016 2015 Puzzle Wonde rland Puzzle RPG November 2016 Age of Empires: Wor ld Domination Strategy November 2016

Captain Tsubasa: Dream Team Sports In service 2017 Utano☆Princesama Shining Liv e Rhythm action In service 2018 YU☆YU☆HAKUSHO 100% Maji B attle (jointly developed with AXEL GameStudio Inc.） Battle RPG In service Magatsu Wahrheit Online RPG March 2021 2019 Love Live! School Id ol Festival All Stars Rhythm acti on RPG In service 2020 Tales of Crestoria (operator: BANDAI NA MCO Entertainment) RPG In service 2000 to 2004

Tetsuya Sanada, the company’s founder, was the vice president of Cybird Co., Ltd. (unlisted), which provided content services for i-mode mobile internet. In 2000, Tetsuya Sanada took the R&D department of Cybird and established the company’s predecessor, K Laboratory. This entity was a subsidiary of Cybird and was developing a Java application for Cybird mobile phones. At the time, it was not involved in any business related to mobile games, KLab’s main business as of June 2020.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 58 Joined the USEN Group in 2004

In the early 2000s, orders for website applications and website development gradually increased. Mobile site traffic at the time often exceeded server capacity, and huge data centers were needed to deal with the demand. The company developed its Dynamic Server Assign System (DSAS), which streamlined access processing and supported high traffic. With DSAS, multiple services are run on the same server, and the servers are allocated evenly when the load is low, but server allocation changes when there is a sudden increase in the load from a specific service. This structure enabled DSAS to cope with rapid spikes in traffic without additional servers. The company began to accumulate a track record with DSAS as its selling point, receiving an order from a major music company for the development of a ringtone website and an order from a large comic distribution company to develop a website.

In 2004, USEN Corporation (a subsidiary of USEN-Next Holdings [TSE1: 9418]) made KLab its consolidated subsidiary. Though a latecomer to the ringtone business, USEN launched a ringtone music website, and KLab assumed responsibility for the development and operation of the main websites of the USEN Group’s mobile business.

Entered the mobile games field in 2009; listed on the Mothers market of the Tokyo Stock Exchange in 2011

In FY08/08, USEN posted a net loss of JPY53.9bn due to unsuccessful M&A, and in December 2007 it sold its shares in KLab to SBI Holdings Co., Ltd. KLab continued to receive orders for the development and operation of mobile websites, and while it was searching for new business areas to get involved in, Mixi Inc. started a mobile game business. KLab founder Tetsuya Sanada decided to enter the mobile game business because he had confidence in the business potential of incorporating games in mobile websites. The current president, Hidekatsu Morita, was in charge of the game business at the time. In December 2009, the company released its first game, Koishite Kyabajou, on the mixi app distribution platform.

The company says that at the time, Koishite Kyabajou made a large contribution to earnings. After that, the company expanded the scope of its business as it released more mobile games, and listed on the Mothers market in September 2011. Smartphones were not yet popular at the time, and browser games for feature phones were mainstream.

Browser game: A game that runs on a web browser. Unlike native apps that run on mobile operating systems (iOS, Android, etc.), they can be played without installing any apps.

From 2009 to 2011, KLab created a number of hits, mainly of mobile browser games. In 2011, the company started to release native app versions of its existing games. In the same year, it obtained game licensing rights for the soccer manga Captain Tsubasa, and released a browser game called Captain Tsubasa: Tsukuro Dream Team. It released a native app version of the same game in 2012. Earnings grew significantly as a result, with revenue of JPY5.7bn in FY08/11 reaching JPY15.2bn in FY08/12.

The mobile game market switched its focus from feature phones to smartphones around 2012. The company established local subsidiaries in China, the US, and Singapore, and acquired an app development company in the Philippines to handle the shift to smartphones and strengthen overseas expansion. This resulted in an international division of labor in which games planned in Japan and the US were developed by a subsidiary in the Philippines, and published through a subsidiary in Singapore. The company produced its first overseas-exclusive game, Lord of the Dragons (RPG), through this system in September 2012 and distributed it globally. The game was a modified version of the Japanese hit Shin Sengoku Buster set in a Western fantasy world instead of the Sengoku (Warring State) Period in Japan.

Recorded operating loss in FY12/13; earnings recovered with the success of Love Live! School Idol Festival

After 2012, KLab released multiple mobile games, but was unable to create a game popular enough to drive results. In FY12/13, revenue was JPY21.0bn, but the company recorded an operating loss of JPY1.2bn due to the low profitability of many games. However, in FY12/14, KLab regained profitability by reducing personnel and reviewing its development policy, and thanks to robust performance of Love Live! School Fest released in FY12/13. Love Live! School Fest continued to drive the company’s results through FY12/17.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 59 Revised business policy including the development system in FY12/16

In FY12/15, BLEACH: Brave Souls (service started in 2015) contributed to results, but revenue fell YoY in both FY12/15 and FY12/16 due to the decline in revenue of existing games. In December 2015, KLab released Age of Empires: World Domination for the overseas market, but booked the entire amount of the game’s assets as an impairment loss in FY12/16, and recorded a net loss of JPY814mn.The company took this as a lesson and scrapped its international model of game development based on global IPs that it had employed since 2012 in favor of a model of developing games based on Japanese IPs in Japan. Accordingly, KLab decided to withdraw from its development base in the Philippines in addition to closing its US base in 2016. The company continued to pare down its overseas subsidiaries, dissolving its Singapore base in December 2019.

In FY12/16, while switching to a new development system, KLab announced it would diversify sources of revenue, which was overly concentrated in Love Live! School Fest, by focusing on its non-game businesses and its publishing business, which publishes externally developed games.

In the publishing business, KLab publishes games (including promotion and other tasks) developed by external development companies. Through this arrangement, the company aims to reduce the risk of a game flopping and to make development and operating costs variable. Non-game businesses included an event business that hosted concerts, and a ramen arena business that operated ramen-themed amusement facilities overseas. In FY12/17, the company streamlined its non-game businesses, including withdrawing from the event business and selling the ramen arena business.

Results driven by Captain Tsubasa since FY12/17, with contributions from the global version of BLEACH: Brave Souls

In FY12/17, earnings contributions from the global version of BLEACH: Brave Souls (service started in 2016) and Captain Tsubasa (service started in 2017) have helped the company diversify its revenue sources. This prompted the company to change its policy in FY12/18 to concentrate management resources on the game business including publishing and other related businesses. KLab withdrew from non-game businesses and sold off non-game business assets. Major shareholders

Top Shareholders Shareholding ratio Tetsuya Sanada 10.5% The Master Trust Bank of Japan, Ltd. (Trust account) 5.7% Custody Bank of Japan, Ltd. (Trust account) 2.5% Bandai Mamco Holdings Inc. 1.7% SMBC Nikko Securities Co., Ltd. 1.6% Custody Bank of Japan, Ltd. (Trust account 5) 1.6% SBI Securities Co., Ltd. 1.5% THE BANK OF NEW YORK MELLON 140,044 1.4% GOVERNMENT OF NORWAY 1.3% Custody Bank of Japan, Ltd. (Trust account 6) 1.3% Total 29.1%

Source: Shared Research based on company data Note: Shareholding ratios as of end-December 2020 Dividend policy

KLab’s basic policy is to pay highly stable dividends in line with profit growth while maintaining a balance with internal reserves.

The company did not pay a year-end dividend in FY12/20 as it planned to invest in future business development and strengthening of the corporate structure.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 60 Corporate governance and top management Overview of corporate governance

Corporate governance

Capital structure Controlling interests Company with Audit & Supervisory Board Foreign shareholding None Organizational type, directors, Audit & Supervisory Board members – Organizational type Number of directors per Articles of Incorporation No upper limit Number of directors 1 year Directors’ term of office per Articles of Incorporation 8 Chairperson of board of directors 3 Number of outside directors Of which, number of independent officers 3 Discretionary committees equivalent to Nominating Committee or 3 Compensation Committee Number of Audit & Supervisory Board members per Articles of Incorporation Number of Audit & Supervisory Board members Yes Number of outside members of Audit & Supervisory Board Yes (website) Of which, number of independent officers None Other In place Status of incentive measures for directors None

FY12/16 FY12/17 FY12/18 FY12/19 FY12/20 Company with Audit & Company with Audit & Company with Audit & Company with Audit & Company with Audit & Company form Supervisory Board Supervisory Board Supervisory Board Supervisory Board Supervisory Board No. of directors 7 7 8 8 8 No. of outside directors 3 3 3 3 3 Tetsuya Sanada Tetsuya Sanada Hidekatsu Morita Hidekatsu Morita Hidekatsu Morita Representative directors President Chairman and president President and CEO President and CEO President and CEO Yosuke Igarashi Yosuke Igarashi Yosuke Igarashi Yosuke Igarashi Vice president Vice chairman Vice chairman Vice chairman Top management

Hidekatsu Morita, President and CEO

Joined Index Co., Ltd. in March 2002. Joined KLab in October 2002. Became an executive officer in September 2009 (current position). Became general manager of KLabGames in April 2010. Became a director in November 2010. Became a senior managing director and Chief Game Officer (CGO) in September 2012. Became a director of KLab China Inc. in November 2012. Became a director of Spicemart Inc. in 2017 (current position). Became senior managing director and CCO in February 2018. Became president and CEO (current position) in March 2019 and chairman of KLab China (current position).

Mr. Morita was in charge of launching the Game business and has served in the role of producer, managing the business ever since. He also has experience at KLab supervising game quality and marketing IPs.

Mr. Morita says he himself plays the company’s games and popular games of other companies. In elementary and junior high school, he read popular manga Kinnikuman, Captain Tsubasa, and Dragon Ball.

Yosuke Igarashi, Representative Director and Vice Chairman of the Board

Joined Vision Arts Co., Ltd. in February 2000. Joined KLab in August 2003. Became a director in June 2005. Became executive officer and COO in September 2005. Became director, vice president, and COO in September 2012. Became chairman of KLab China Inc. in November 2012. Became a director at Spicemart Inc. (current position) in July 2017. Became KLab representative director, vice president, and COO in March 2018. Became representative director and vice chairman of the company (current position) in March 2019. Became a director at KLab China (current position) in March 2019.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 61 News and topics Acquisition of shares in GlobalGear Co. Ltd. and its conversion into a subsidiary

2021-04-12

KLab Inc. announced the acquisition of shares in GlobalGear Co. Ltd. and its conversion into a subsidiary.

At a meeting of its Board of Directors held on the same day, the company resolved to acquire all of the shares in GlobalGear and convert it into a consolidated subsidiary.

Reason for the acquisition

As part of its medium to long-term growth strategy, the company entered the casual games business in 2020. GloablGear designs, develops, and operates mobile applications, with a focus on casual games for the Japanese market. Having released over 100 games to date, with all processes conducted in-house, GlobalGear has expertise relating to casual games. It also has the development capabilities to continuously release new titles on a stable basis, and the design capabilities to create hit titles with over 10 million downloads.

Going forward, the two companies plan to accelerate business growth in casual games by leveraging KLab’s resources to help GlobalGear make further inroads into overseas markets and creating synergy through enhancing their development pipelines and sharing expertise.

Overview of the company to become a subsidiary

Company name: GlobalGear Co. Ltd. Business outline: Development of mobile applications for smartphones Principal shareholder/shareholding ratio: Hiroshi Tahara/100%

Operating performance and financial position of GlobalGear

(JPYmn) FY12/18 FY12/19 FY12/20 Net assets 320 475 620 Total assets 361 593 693 Revenue 322 478 508 Operating profit 109 237 211 Recurring profit 121 237 213 Net income 84 155 145

Source: Shared Research based on company data

Seller, acquisition price, shareholding before and after acquisition

Seller: Hiroshi Tahara (representative director of GlobalGear) Acquisition price: Disclosure not permitted under the provisions of the share transfer agreement Shareholding before acquisition: 0 shares (proportion of voting rights held: 0.0%) Shareholding after acquisition: 60 shares (proportion of voting rights held: 100.0%)

Schedule

Agreement signing date: April 12, 2021 Share transfer execution date: April 12, 2021

Decisions concerning details related to an upcoming share buyback

2021-02-19

KLab Inc. announced the following decisions concerning details related to an upcoming share buyback.

Buyback details

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 62 Type of shares: KLab common stock Total number of shares acquirable: 900,000 (maximum, 2.3% of total outstanding shares [minus treasury shares]) Total price of buyback: JPY500mn (maximum) Period of buyback: February 22, 2021–December 30, 2021 Buyback method: Market purchase on the Tokyo Stock Exchange

Revision to its full-year FY12/20 earnings forecast

2020-11-05

KLab Inc. announced a revision to its full-year FY12/20 earnings forecast.

Revised earnings forecast for FY12/20

Revenue: JPY35.0bn (previously JPY33.0–36.0bn) Operating profit: JPY2.5bn (JPY1.0–3.0bn) Recurring profit: JPY2.0bn (JPY1.0–3.0bn) Net income*: JPY900mn (JPY200mn–1.6bn) EPS: JPY23.56 (JPY5.24–41.90) * Net income attributable to owners of the parent

Reasons for the revision

The company previously released its full-year FY12/20 forecast as ranges, but revised its forecast to reflect cumulative Q3 results and detailed review of its outlook for Q4.

The revised revenue forecast was at the upper end of the range in the previous forecast, because revenue was higher than expected due to robust performance of existing titles in Q3 (July–September 2020). Profit forecasts at all levels are within the range of the previous forecast.

Assumptions underlying the company’s Q4 earnings forecast are as follows.

The company estimated increase/decrease in revenue for each title based on the revenue life cycle of existing titles. New title Lapis Re:LiGHTs had been scheduled for release in Q4, but the release date was postponed to 2021, because the company prioritized quality assurance of the game. The company took a conservative approach to casual games (a project started in FY12/20) and has not factored any revenue from this business into its forecast. The company expects expenses in Q4 to be similar to Q3.

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 63 Profile

Company Name Head Office KLab Inc. 6-10-1 Roppongi, Minato-ku, Tokyo, Japan

Phone Listed On 03-5771-1100 Tokyo Stock Exchange First Section

Established Exchange Listing 2000-08-01 2011-09-27

Website Fiscal Year-End https://www.klab.com/jp/ Dec

IR Contact IR Web - https://www.klab.com/en/ir/

IR Phone IR Email - -

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 64 About Shared Research Inc.

We offer corporate clients comprehensive report coverage, a service that allows them to better inform investors and other stakeholders by presenting a continuously updated third-party view of business fundamentals, independent of investment biases. Shared Research can be found on the web at https://sharedresearch.jp. Contact Details

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Research Coverage Report by Shared Research Inc. | pdf.summary.company_website 65