15 September 2017 Asia Pacific/Japan Equity Research Entertainment Software (Video Game (Japan))

Nintendo (7974) Rating (from NEUTRAL) OUTPERFORM [V] Price (14 Sep 17, ¥) 37,670 UPGRADE RATING Target price (¥) (from 40,000) 55,000 Change to TP (%) 46 Market cap (¥ bn) 4,523 (US$ 40.9) Upgrading to OUTPERFORM: Multi-Switch Enterprise value (¥ bn) 3,776 Number of shares (mn) 120.1 homes to drive high earnings peak Free float (%) 70.0 52-week price range 39,320–22,520 ■ Action: We raise our forecasts and lift our target price for Nintendo from Target price is for 12 months. ¥40,000 to ¥55,000 (potential return 46%). We also upgrade Nintendo from [V] = Stock Considered Volatile (see Disclosure Appendix) Neutral to OUTPERFORM. We now forecast Switch sales of 130mn Research Analysts (previously 70mn) units through FY3/22. Keiichi Yoneshima 81 3 4550 9740 ■ Including multi-Switch households into demand outlook: We had [email protected] previously expected the Switch to sell like a traditional console, but now Hanako Takahashi expect it to sell more like a handheld, due to three main reasons: (1) a 81 3 4550 7366 [email protected] Famitsu survey released in June indicating that many users are already using the Switch like a handheld (see Figure 1), (2) the comparatively low price, and (3) prospects for a long-tail sales cycle driven by minor changes. We now forecast Switch sales peaking at 31mn units in FY3/20–21 (previously 15mn in FY3/19). ■ Catalysts/risks: Potential upside catalysts include a 2Q earnings report accompanied by upwardly revised guidance and unveiling of a major third- party software title at the Tokyo Game Show (21–24 September). Downside risks include disappointing Switch sales and yen appreciation. ■ Valuation: We set our ¥55,000 target price using a the sum-of-the-parts (SOTP) method, using game consoles, smart devices, and cash. We value the game hardware business at an ex-cash P/E of 18x (previously 20x) to reflect that we now expect Switch sales to peak in FY3/20–21 instead of FY3/19.

Share price performance Financial and valuation metrics Pr ice (LH S) Reb ased Rel (RH S) Year 3/17A 3/18E 3/19E 3/20E Sales (¥ bn) 489.1 831.4 1,196.4 1,599.1 4 0 ,0 0 0 Operating profit (¥ bn) 29.4 80.4 258.1 470.1

3 0 ,0 0 0 Recurring profit (¥ bn) 50.4 106.3 284.0 496.0 Net income (¥ bn) 102.6 69.1 184.6 322.4 2 0 ,0 0 0 EPS (¥) 853.9 575.1 1,536.5 2,683.6 IBES Consensus EPS (¥) n.a. 856.0 1,409.0 1,877.9 1 0 ,0 0 0 EPS growth (%) 521.4 (32.6) 167.2 74.7 Jan - 1 6 Ju l- 1 6 Jan - 1 7 Ju l- 1 7 P/E (x) 30.3 65.5 24.5 14.0 The price relative chart measures performance against the Dividend yield (%) 1.7 0.8 2.0 3.6 TOPIX which closed at 1,632.13 on 14-Sep-2017 EV/EBITDA (x) 65.6 42.6 13.9 7.4 On 14-Sep-2017 the spot exchange rate was P/B (x) 2.9 4.1 3.9 3.5 ¥110.46/US$1 ROE(%) 8.5 5.4 13.8 22.0 Performance 1M 3M 12M Net debt/equity (%) Net cash Net cash Net cash Net cash

Absolute (%) 2.8 4.5 46.3 Source: Company data, Thomson Reuters, Credit Suisse estimates Relative (%) 1.8 2.3 22.1

DISCLOSURE APPENDIX AT THE BACK OF THIS REPORT CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, LEGAL ENTITY DISCLOSURE AND THE STATUS OF NON-US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. 15 September 2017

Nintendo (7974) Price (14 Sep 2017): ¥37,670 (upside: 46%); Rating: (from NEUTRAL) OUTPERFORM [V]; Target Price: (from ¥40,000) ¥55,000; Analyst: Keiichi Yoneshima Income statement (¥ bn) 3/17A 3/18E 3/19E 3/20E Key ratios 3/17A 3/18E 3/19E 3/20E Sales 489.1 831.4 1,196.4 1,599.1 Growth (%) EBITDA 37.7 88.8 266.5 478.5 Sales (3.0) 70.0 43.9 33.7 Operating profit 29.4 80.4 258.1 470.1 Operating profit (10.7) 173.8 221.0 82.1 Recurring profit 50.4 106.3 284.0 496.0 EPS 521.4 (32.6) 167.2 74.7 Extraordinary gain & loss 64.4 0.0 0.0 0.0 Margins (%) Profit before tax 114.7 106.3 284.0 496.0 Gross margin 40.7 39.0 41.9 44.6 Net income 102.6 69.1 184.6 322.4 EBITDA margin 7.7 10.7 22.3 29.9 Cash flow (¥ bn) 3/17A 3/18E 3/19E 3/20E OP margin 6.0 9.7 21.6 29.4 Operating cash flow 19.1 121.9 186.0 320.3 DuPont analysis Depreciation & Amortization 8.4 8.4 8.4 8.4 ROE (%) 8.5 5.4 13.8 22.0 Investing cash flow 69.5 24.6 (15.2) (15.2) Net profit margin (%) 21.0 8.3 15.4 20.2 Capex (9.9) (15.2) (15.2) (15.2) Sales/Assets 0.3 0.5 0.7 0.8 Free cash flow 88.6 146.5 170.8 305.1 Assets/Equity 1.2 1.3 1.3 1.3 Financing cash flow (14.4) (29.1) (92.3) (161.2) Credit ratios (%) Issuance (retirement) of stock (0.0) 0.0 0.0 0.0 Equity ratio 85.2 79.5 77.6 76.8 Dividends paid (14.4) (34.5) (92.3) (161.2) Net D/E ratio Net cash Net cash Net cash Net cash Net change in cash 74.2 117.4 78.5 143.9 Per share data (¥) Number of shares (mn) 120.1 120.1 120.1 120.1 Balance sheet (¥ bn) 3/17A 3/18E 3/19E 3/20E EPS 853.9 575.1 1536.5 2683.6 Cash & cash equivalents 662.8 780.1 858.6 1,002.5 BPS 8829.3 9111.5 9763.0 10900.8 Current receivable 106.1 91.1 131.1 175.2 DPS 430.0 287.6 768.2 1341.8 Inventories 39.1 83.4 114.2 145.6 Dividend payout ratio (%) 50.4 50.0 50.0 50.0 Other current assets 332.8 330.4 330.4 330.4 Current assets 1,140.7 1,285.0 1,434.3 1,653.7 Valuation (x) 3/17A 3/18E 3/19E 3/20E Property, plant & equipment 128.7 138.4 148.1 157.8 P/E 30.3 65.5 24.5 14.0 Investments - - - - P/B 2.9 4.1 3.9 3.5 Intangibles 12.8 12.8 12.8 12.8 EV/EBITDA 65.6 42.6 13.9 7.4 Other non-current assets 186.7 186.8 186.8 186.8 Dividend yield (%) 1.7 0.8 2.0 3.6 Total assets 1,469.0 1,623.0 1,782.0 2,011.1 FCF yield (%) 0.3 2.4 3.8 6.7 Payables 104.2 180.8 247.5 315.4 Short term debt 0.0 0.0 0.0 0.0 Other current liabilities 79.9 117.4 117.4 117.4 Current liabilities 184.1 298.1 364.8 432.7 Long term debt 33.9 33.9 33.9 33.9 Other non-current liabilities 0.0 0.0 0.0 0.0 Total liabilities 218.0 332.0 398.7 466.6 Shareholders' equity 1,250.8 1,290.8 1,383.1 1,544.3 Minority interests 0.1 0.1 0.1 0.1 Source: Company data, Thomson Reuters, Credit Suisse estimates

Nintendo (7974)2 15 September 2017

Table of contents

Upgrading to OUTPERFORM: Multi-Switch homes to drive high earnings peak 1

Executive summary 4 Upgrading to OUTPERFORM with ¥55,000 TP ...... 4 Three reasons why Switch will be more like a handheld...... 4 Valuation ...... 7

Upgrading to OUTPERFORM, raising TP to ¥55,000 9 Forecasting Switch sales through FY3/22 at 130mn units, revised from 70mn ...... 9 Incorporating multi-Switch households into our sales forecast ...... 9 Game hardware is relatively inexpensive per CPI data ...... 12

Switch poised for similar uptake as the DS series 14 3DS+NDS constitute a broader “DS series”...... 14 Revising attach rate outlook...... 17 Expecting production capacity to rise to 2.5mn units/month; peak FY capacity of 30mn units within reach ...... 18

Prospects for long-tail sales driven by minor changes 19 Switch color variations suggests scope for device personalization...... 19 Previous minor changes...... 21 Minor changes in handheld and stationary consoles differ by an order of magnitude ...... 22

Near-term catalyst: upward revision at 2Q (Jul–Sep) results 23 Profits concentrated in Oct–Dec; expecting lift to full-year guidance if 1H progress is around 50% ...... 23

Forecasts for non-Switch products 25 2DS likely to become the core handheld...... 25 Modest revision to smartphone app forecasts ...... 25

Valuation: raising value of game console business from ¥2.7tn to ¥4.7tn 26 Focusing on the Switch; smartphone apps also look promising in the long term...26

Earnings forecasts 30 Revising Switch earnings peak from FY3/19 to FY3/20–21; raising peak sales ‒ 15mn to 31mn units...... 30

Nintendo (7974)3 15 September 2017

Executive summary Upgrading to OUTPERFORM with ¥55,000 TP Changes from our previous report: Now reflecting realization of upside scenario ■ 1) We raise our earnings forecasts after lifting our cumulative sales forecast for the Switch through FY3/22 from 70mn units to 130mn units. ■ 2) We raise our target price from ¥40,000 to ¥55,000. We push back our expected earnings peak from FY3/19 to FY3/20–21 and, given the time value factor, lower our target P/E for the game console business from 20x to 18x. Raising Switch sales forecast through FY3/22 from 70mn to 130mn units to reflect a handheld-like sales cycle As Nintendo’s Switch is a unique game platform for use as either a console or handheld, there was initially some uncertainty over whether its sales cycle would more closely resemble that of a console or handheld. Although the Switch is currently categorized as more of a console, we expect it to sell like a handheld. Many users are in fact using the Switch as a portable according to a Famitsu survey of users (Figure 1). We previously projected a sales peak at about three years after launch (i.e., in FY3/19) on the assumption of a console-like sales cycle. Now that the Switch looks more likely to sell like a handheld, we update our sales forecast to reflect a longer sales cycle. We now expect the Switch to achieve peak sales about five years after launch (i.e., around FY3/20–21) like a typical handheld game device. We also raise our peak-year sales forecast from 25mn to 31mn units. We expect Switch sales to rival combined NDS/3DS sales Assuming the Switch sells like a handheld, we could use the Nintendo DS, or NDS, (sales of 150mn units), or Nintendo 3DS (80mn units) as benchmarks for forecasting sales. In retrospect, however, the NDS and 3DS were ultimately similar to each other and, in our opinion, more aptly grouped together as a single broadly defined DS series. Our updated Switch sales forecast assumes that Switch sales will exhibit an arc similar to this broader DS series. Three reasons why Switch will be more like a handheld 1) Many users are already doing this Figure 1 shows the results of a survey of Switch users released by Famitsu in June. The survey looked at the amount of time gamers used the Switch in each of the three modes (TV, tablet, and handheld). The survey indicates no meaningful difference in the amount of time gamers spend using the Switch in TV mode (equating roughly to use as a traditional console) versus the other non-console-like modes. In addition, the number of users saying they spend no time playing on the Switch in any particular mode was only around 10% or so for all three modes. The survey was aimed at seeing the different play times depending on the play mode. When viewed from a different perspective, however, the data suggests that users are already using the Switch as a handheld.

Nintendo (7974)4 15 September 2017

Many users are using the Switch as a Figure 1: Switch reportedly often used Figure 2: We expect Switch sales portable according to in tabletop/handheld modes cycle to resemble NDS & 3DS survey Switch (New- CSE) Switch (Old- CSE) 40% NDS+3DS Wii 35% TV mode 45 40 30% Tabletop mode 35

25% )

s 30 t Handheld mode i 20% n 25 u

15% n 20 m 10% ( 15 5% 10 0% 5 0 1 2 3 4 5 6

r r r r r r a a a a a a e e e e e e Y Y Y Y Y Y Time spending

Source: Famitsu, Credit Suisse Source: Company data, Credit Suisse estimates 2) CPI data shows the Switch as inexpensive; pricing conducive to handheld use case The Switch is Prices of personal digital devices have been trending upward in the wake of smartphone inexpensively priced proliferation. Prices of game hardware, however, have remained roughly unchanged in absolute terms, leading to the Switch's growing appeal as a relative bargain. Although 20% of survey respondents cited “high price” as a reason for not buying the Switch, we expect this perception to dissipate as the Switch gains mass-market prevalence, given its comparatively low price.

Figure 3: Game hardware is relatively Figure 4: “High price” cited by 20% for low-priced per CPI data not buying the Switch 140% 0% 10% 20% 30% 40%

120% No interest in gaming 33% Price too high 18% 100% No time to play games 17% 80% I Satisfied with current game P 11% C 60% console Lack of appealing game titles 8%

40% Switch console performance 8% and capabilities not appealing 20% Game HW Mobile phones Family or friend has bought one 1% 0% Other 30% 2008 2009 2010 2011 2012 2013 2014 2015 2016

Source: MIC Source: Famitsu, Credit Suisse

3) Expect long-tail sales cycle for the Switch thanks to minor changes DS series sold more The DS (NDS + 3DS) series sales cycle lasted 12 years, peaking around year five (Figure than 200mn units over 5). The broadly defined DS series sold more than 200mn units over a long sales cycle. We 12-year sales cycle think the key factor behind this DS series was that the sales cycle had both a high peak and a long tail. The long tail factor is likely due to the numerous minor changes introduced over the cycle. We think that the Switch will also see numerous minor changes over time, noting that Nintendo has in fact already introduced a number of minor changes for the Switch.

Nintendo (7974)5 15 September 2017

Combined NDS/3DS series achieved Figure 5: DS series had very long- Figure 6: Total market penetration of mass-market success tailed sales cycle game hardware with penetration over DSi 250 as of end-FY3/22 232 200mn units 201 35 DS Lite 200 DS i LL 154

) 150 30 ) 128 s

s 120 t t i i 102 n n 25 100 81 u 78 u

n n

20 3DS m ( 50 m ( 15 14 NDS 0 i y S S S i ) h A A 10 12 years U - c E o D D D B B i

t W i i B 3 3 S N

G G + C w e + W ( S

5 S B m D G a N

0 G 5 6 7 8 9 0 1 2 3 4 5 6 7

0 0 0 0 0 1 1 1 1 1 1 1 1 Console Console? Portable CS definition / / / / / / / / / / / / /

3 3 3 3 3 3 3 3 3 3 3 3 3 Portable? Y Y Y Y Y Y Y Y Y Y Y Y Y F F F F F F F F F F F F F

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Broad definition of DS In traditional handhelds, the NDS (150mn units) and 3DS (80mn units) could be viewed as series includes appropriate benchmarks. Looking back over the history of the NDS and 3DS, however, we NDS+3DS; expect see the two series as ending up being quite similar. As a result, we include both handhelds Switch to follow broad in our broad definition of the DS series. We further expect that Switch sales will generally DS series cycle follow those of the broadly defined DS (NDS+3DS) series. We conservatively assume a lower Switch attach rate than for consoles Handheld game Game consoles generally tend to have higher attach rates than their handheld devices tend to have counterparts. The Switch, however, is a cross between a console and handheld. We lower attach rates than assume the Switch will have a relatively low attach rate, on par with handheld game consoles hardware. Our forecasts therefore have upside potential if the Switch proves to have a higher attach rate more in line with that of a console.

Figure 8: Switch could benefit from Figure 7: Handheld game devices tend high console-like attach rate and to have lower attach rates than handhelds’ greater mass-market consoles appeal Attach rate 10 x Low High 8 x NDS Conventional 6 x Smaller 3DS home console e

4 x s a b

Wii l 2 x l a t

s Conventional Positive

0 x n Wii-U I 1 2 3 4 5

Bigger handheld scenario for r r r r r

a a a a a console Switch e e e e e Y Y Y Y Y

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Nintendo (7974)6 15 September 2017

Valuation We value game console business at ¥4.7tn, revised from ¥2.7tn, assuming long, loftier Switch sales cycle We expect the Switch to have a long-tailed sales cycle with a high peak, like the DS series. In the Switch’s peak sales year, OP from the game console business by itself should reach the vicinity of ¥400bn (including game-related software). Including the smart device business’s projected profit contribution as well, we forecast FY3/20–21 OP of around ¥500bn, near FY3/09’s all-time record OP.

Figure 9: We expect strong Switch sales to boost OP back to all-time peak level

Operating Profit 600 Other Smart device, IP Software Hardware 500 112 88 400 112

) 300 511

n 407

b 320 58 298 Y 280

P 200

J 219 ( 186 165 100 156 26 89 77 74 115 5 91 87 95 69 39 41 46 34 61 32 2114 38 0 -0 14 -4 -7 -33 -83 -82 -37 -100 -154

-200

Source: Company data, Credit Suisse estimates

We had previously assumed that Switch sales would peak in FY3/19. We now assume a longer sales cycle and thus push back our expected peak to FY3/20–21. We also include a one-year time value of money discount to reflect the longer interval until peak sales, lowering our target P/E multiple from 20x to 18x.

Figure 10: Derivation of SOTP target price

Estimated fair Fair value share value: ¥6.6tn price: ¥55,187 Calculated using four- 100% year DCF model. 90% ¥1,258,921 EV/EBITDA of 15x used Divide by total ¥10,480 1) Smart device mn for terminal value number of 80% shares 70% Ex-cash P/E of 18x to calculate per- 60% applied to FY3/20-21 share value 50% 2) Game console operating profit ¥4,707,933 forecast - contribution ¥39,191 40% mn of smart devices 30% (¥330 bn) 20% 3) Cash balance Cash balance at end- 10% FY3/17: ¥660b ¥662,763 mn ¥5,517 0% Business and cash value Share price breakdown

Source: Company data, Credit Suisse estimates, Thomson Reuters Datastream

Nintendo (7974)7 15 September 2017

Figure 11: Nintendo share price rose more than five-fold over two years during the previous earnings peak

¥80,000 ¥70,000 Nintendo ¥60,000 ¥50,000 ¥40,000 ¥30,000 ¥20,000 ¥10,000 ¥0 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 9 9 9 0 0 0 0 0 0 0 0 0 0 1 1 1 1 1 1 1 1 ------p p p p p p p p p p p p p p p p p p p p p e e e e e e e e e e e e e e e e e e e e e S S S S S S S S S S S S S S S S S S S S S

Source: Thomson Reuters Datastream, Credit Suisse

Nintendo (7974)8 15 September 2017

Upgrading to OUTPERFORM, raising TP to ¥55,000 Forecasting Switch sales through FY3/22 at 130mn units, revised from 70mn

Figure 12: Nintendo (7974) – Earnings summary EV 14-Sep-17 Sales Operating profit Recurring profit Net profit EPS DPS P/E /EBITDA ¥37,670 ¥bn YoY (%) ¥bn YoY (%) ¥bn YoY (%) ¥bn YoY (%) ¥ YoY (%) (x) ¥ (x) FY Mar-17 A 489.1 -3.0% 29.4 -10.7% 50.4 74.9% 102.6 521.4% 853.9 521.4% 65.6 430.0 44.1 Mar-18 CS E (new) 831.4 70.0% 80.4 173.8% 106.3 111.1% 69.1 -32.6% 575.1 -32.6% 42.6 287.6 65.5 (prev) 811.8 66.0% 86.1 193.2% 112.0 122.4% 72.8 -29.0% 605.9 -29.0% 40.0 303.0 62.2 CoE 750.0 53.3% 65.0 121.4% 60.0 19.1% 45.0 -56.1% 374.6 -56.1% NA 190.0 100.6 IBES E 938.3 91.8% 129.6 341.3% 151.6 201.1% 103.6 1.0% 856.0 0.3% 26.5 407.4 44.0 Mar-19 CS E (new) 1,196.4 43.9% 258.1 221.0% 284.0 167.1% 184.6 167.2% 1,536.5 167.2% 13.9 768.2 24.5 (prev) 1,333.4 64.3% 232.5 170.0% 258.4 130.7% 167.9 130.7% 1,398.0 130.7% 15.4 699.0 26.9 IBES E 1,197.7 27.6% 234.2 80.7% 249.4 64.5% 167.8 61.9% 1,409.0 64.6% 14.9 706.6 26.7 Mar-20 CS E (new) 1,599.1 33.7% 470.1 82.1% 496.0 74.7% 322.4 74.7% 2,683.6 74.7% 7.4 1,341.8 14.0 (prev) 1,353.9 1.5% 308.6 32.7% 334.5 29.4% 217.4 29.5% 1,809.8 29.5% 11.4 904.9 20.8 IBES E 1,275.2 6.5% 314.0 34.1% 338.2 35.6% 223.9 33.4% 1,877.9 33.3% 11.2 982.8 20.1 Mar-21 CS E (new) 1,700.3 6.3% 524.5 11.6% 550.4 11.0% 357.8 11.0% 2,978.2 11.0% 6.4 1,489.1 12.6 (prev) 1,305.5 -3.6% 337.3 9.3% 363.2 8.6% 236.0 8.6% 1,965.0 8.6% 10.2 982.5 19.2 IBES E 1,126.2 -11.7% 320.9 2.2% 343.7 1.6% 234.5 4.8% 1,951.2 3.9% 9.6 940.0 19.3 Mar-22 CS E (new) 1,485.9 -12.6% 398.5 -24.0% 424.4 -22.9% 275.9 -22.9% 2,296.5 -22.9% 8.0 1,148.3 16.4 IBES E 1,061.7 -37.6% 284.4 -45.8% 307.4 -44.1% 225.3 -37.0% 1,873.9 -37.1% 10.6 883.3 20.1 Note: Multiples for actual performance use a recent share price, so some figures could differ from the front-page data table. Source: Company data, I/B/E/S, Credit Suisse estimates Incorporating multi-Switch households into our sales forecast We expect a Switch sales cycle similar to that for handheld devices We now project longer, With the Switch designed for use as both an in-home console and portable device, the higher-peaked sales biggest question in our mind was whether it would sell like a console or a handheld. After cycle like that of a initially assuming the console case, we have changed our mind for several reasons. First, handheld many users are reportedly already using the Switch as a portable. Second, the Switch is relatively low-priced. Third, the Switch sales cycle will likely be prolonged by releases of new versions with minor upgrades. We now expect Switch sales to peak in FY3/20–21 instead of FY3/19 and raise our peak-year sales forecast from 15mn to 31mn units.

Figure 13: Now forecast peak Switch Figure 14: We expect the Switch to sales in FY3/20–21 (previously FY3/19) have a handheld-like sales arc

Switch (New- CSE) Switch (Old- CSE) 300 Switch - HW (CS E) NDS+3DS Wii 250 Switch - SW (CS E) 45 194 200 182 40 153 35 ) )

s 30

150 120 t s i t n

i 25 u

n 100 n 20 u 59

m ( n 50 15 23 30 31 27 15 m 3 5 10 ( 0 5 E E E E E 7 0 8 9 0 1 2 1 1 2 3 4 5 6

/ 1 1 2 2 2 r r r r r r / / / / / 3 a a a a a a e e e e e e 3 3 3 3 3 Y Y Y Y Y Y Y F Y Y Y Y Y F F F F F

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Nintendo (7974)9 15 September 2017

Figure 16: DS (NDS+3DS) and Figure 15: Game hardware’s Gameboy series both sold over 200mn cumulative sales (historical) units

180 NDS, 154 250 as of end-FY3/22 232 160 201 200 140 Switch (CSE), 154 150 ) 128

120 128 s 120 t

Wii, 102 i ) 102 s n

t 100 100 81 u

i 78 GBA, 82 n n u

80 3DS, 78 m GB, 65 (

n 50 14 m 60 ( 0 i y S S S i 40 N64, 27 ) h A A U - c E o D D D B B i NGC, 22 t W i i B 3 3 S

Wii U, 14 N

G G

20 + C w e + W ( S S B m D G 0 a N G E E E 7 9 1 3 5 7 9 1 3 5 7 9 1 9 9 0 0 0 0 0 1 1 1 1 1 2 9 9 0 0 0 0 0 0 0 0 Console Console? Portable CS definition 0 0 0 1 1 2 2 2 2 2 2 2 2 Y Y Y Y Y Y Y Y Y Y 2 2 2 F F F F F F F F F F Y Y Y Portable? F F F

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates We look for a lofty earnings peak coinciding with peak Switch sales in FY3/20–21 Assuming that Switch sales peak in line with our forecast, we expect OP from the game console business by itself to reach ¥400bn (including game software). Meanwhile, the smart device business should contribute additional profits. Although we do not expect hardware unit sales to match their FY3/09 all-time high (Figure 19), we believe consolidated OP should peak above ¥500bn like in FY3/09.

Figure 18: DS (NDS+3DS) and Figure 17: Game hardware’s Gameboy series both sold over 200mn cumulative sales (historical) units

Sales Other Operating Profit 1,800 600 1,600 Other 221 Smart 173 500 device, IP 1,400 Smart device, IP 221 112 Software 88 1,200 Software 400 113 577 604 1,000 Hardware 473 Hardware 112 ) ) 300 n 409 n b b

800 49 320 Y Y 58 298 P 266 P J J 200 ( 600 ( 219 6 24 400 851 877 230 206 677 793 100 26 165 519 200 5 91 87 95 69 268 257 32 2114 38 0 0 -4 -7 -33 FY3/16 FY3/17 FY3/18E FY3/19E FY3/20E FY3/21E FY3/22E FY3/16 FY3/17 FY3/18E FY3/19E FY3/20E FY3/21E FY3/22E -100

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 19: Hardware unit-sales and OP

('000 units) 3DS NDS (JPY mn) 60,000 GB total Switch 600,000 Wii-U Wii 50,000 GC N64 500,000 SFC FC 40,000 400,000 OP total (RHS) 30,000 300,000

20,000 200,000

10,000 100,000

0 0 E E E E E 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 9 9 9 9 9 9 9 9 9 9 0 0 0 0 0 0 0 0 0 0 1 1 1 1 1 1 1 1 / / / / / / / / / / / / / / / / / / / / / / / / / / / / 1 1 2 2 2 / / / / / -10,000 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 -100,000 3 3 3 3 3 Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y F F F F F F F F F F F F F F F F F F F F F F F F F F F F Y Y Y Y Y F F F F F

Source: Company data, Credit Suisse estimates

Nintendo (7974) 10 15 September 2017

We make our forecasts from the standpoints of the trough quarter, peak quarter and peak fiscal-year sales Model-by-model comparison of Nintendo’s previous game hardware’s trough-quarter, peak-quarter, and peak-fiscal-year sales based on unit sales in the first five quarters after launch reveals a pattern. Our earnings model puts the trough quarter in 1Q FY3/18, the peak quarter in 3Q FY3/18, and the peak year in FY3/21. In our forecast, the ratios for the Switch’s peak-quarter sales to trough-quarter sales and peak-fiscal-year sales to peak- quarter sales are within the ranges of the corresponding ratios for previous successful hardware models. While admittedly bullish, our Switch sales forecasts are reasonable in our assessment.

Figure 20: Switch’s projected trough- Figure 21: NDS’s trough-quarter, quarter, peak-quarter and peak-fiscal- peak-quarter and peak-fiscal-year year sales sales 35 35 5.0x 31 31 30 30 5.6x

Switch ) ) s s

t 25 i t 25 3.0x i (FY18/3CoE) n n u u 20 20 4.1x n n m m NDS ( ( 15 Switch 15 10 10 (FY21/3 CSE) 10 FY18/3 1Q(actual) 6 6 5 2 5 1 0 0 Bottom - Q Peak - Q Peak - FY Bottom - Q Peak - Q Peak - FY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 23: Ratios of peak-quarter to Figure 22: Game hardware sales in trough-quarter and peak-FY to peak- first five quarters post launch quarter sales

8 Wii 6 x 7 5.6 x NDS 5 x 5.1 x 6 NDS(Nov) Switch (CSE) 4.1 x 5 4 x 3.7 x Wii(Nov) )

s 3.0 x t i 4 3 x Switch CSE (Mar) n

u 2.6 x 3 Switch, 18/3 CoE n 2 x 1.7 x m 2 1.7 x ( 3DS(Feb) 1 1 x 1.1 x Wii-U (Nov) 0 0 x Q1 Q2 Q3 Q4 Q5 Peak-Q/ Bottom-Q Peak-FY/ Peak-Q

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Nintendo (7974) 11 15 September 2017

Game hardware is relatively inexpensive per CPI data Game hardware Multi-Switch households likely to become common given Switch pricing becoming more affordable amid In discussions of how widely gamer households will buy more than one Switch apiece, the smartphone issue of price often comes up. The Switch is priced at approximately ¥30,000, on par with proliferation consoles like Wii and WiiU and roughly double the price of handhelds like the NDS, 3DS and 2DS. However, since the Switch is no more expensive than previous consoles, we consider it relatively inexpensive compared with the current price level. Over the past decade, game hardware has in fact become more affordable according to CPI data, in contrast to much more ubiquitous mobile phones (Figure 24). Figure 25 compares CPI subindexes for game consoles, handheld game devices, and game software. While game software, whose development costs are relatively easy to pass on to consumers through sales prices, have remained stable in price, both game consoles and handhelds have come down in price.

Figure 24: Game hardware has become more affordable relative to Figure 25: Game hardware has fallen mobile phones in price; game software has not 140% 120% 120% 100% Game 100% HW(Console) 80% I

80% P Game I C P 60% C HW(Portable) 60% 40% Gamesoft 40% 20% 20% Game HW Mobile phones All items 0%

0% 0 1 2 3 4 5 6 1 1 1 1 1 1 1

2008 2009 2010 2011 2012 2013 2014 2015 2016 0 0 0 0 0 0 0 2 2 2 2 2 2 2

Source: MIC Source: MIC

Game hardware’s initial list prices differ somewhat as a function of technical specifications and other such factors, but prices have not necessarily risen in tandem with specification upgrades. Indeed, game hardware models have risen and fallen repeatedly over the years even within the same hardware series. For the most part, game hardware prices have not risen overall. Nintendo’s 3DS was initially list-priced at ¥25,000, substantially above the NDS list price, but Nintendo soon cut the price to ¥15,000. Nintendo has since refrained from raising prices much or passing through cost increases.

Figure 26: Game hardware prices Nintendo Console Nintnedo Portable Sony Console Year Name Price Year Name Price Year Name Price 2001 Gam Cube ¥25,000 2003 Gameboy Advance SP ¥12,500 2000 Play Station 2 ¥39,800 2006 Wii ¥25,000 2004 NDS ¥15,000 2006 Play Station 3 ¥49,800 2012 WiiU ¥30,000 2011 3DS ¥25,000 2013 Play Station 4 ¥39,980 2017 Switch ¥29,980 3DS(Repriced) ¥15,000

Source: Company data, Credit Suisse

Nintendo (7974) 12 15 September 2017

As the Switch gains in popularity, fewer consumers will likely consider it “high-priced” If we classify the Switch as a handheld game device, its roughly ¥30,000 list price does indeed seem pricey at first glance. While a hypothetical family with two children may very well be willing to purchase one NDS for each child, many families would presumably be reluctant to buy a Switch for each child at its list price. In a Famitsu survey of consumers’ Switch purchasing intentions, 20% of respondents not interested in purchasing a Switch cited “high price” as a reason for not buying one. Switch seems to currently have a high- priced image among consumers, but considering game hardware’s relative affordability as discussed above, we expect the misperception that the Switch is high-priced to dissipate over time. If so, the 20% of survey respondents given pause by the Switch’s price tag can be thought of positively as a latent pool of eventual Switch purchasers.

Figure 27: Reasons for not being interested in purchasing a Switch 0% 10% 20% 30% 40%

No interest in gaming 33%

Price too high 18%

No time to play games 17%

Satisfied with current game 11% console

Lack of appealing game titles 8%

Switch console performance 8% and capabilities not appealing

Family or friend has bought one 1%

Other 30%

Source: Famitsu, Credit Suisse

Nintendo (7974) 13 15 September 2017

Switch poised for similar uptake as the DS series 3DS+NDS constitute a broader “DS series” A broader view of the Gameboy and DS series Nintendo’s post-Gameboy handheld game console sales volume (Figure 28) looks to have repeatedly undergone ups and downs in relatively short sales cycles. However, the sales curve is somewhat more gentle if we adopt the broader view of Gameboy and Gameboy Advance (GB+GBA) constituting the GB series and NDS+3DS constituting the DS series (Figure 29). The sharp sales dip followed by a rebound mid-cycle of the GB series was apparently due to the introduction of the slimmer Gameboy Pocket (GB Pocket) in July 1996 (Figure 30).

Figure 28: High sales volatility if the Figure 29:…but ups and downs are game consoles are viewed smoother for the broader GB and DS separately… series

GB+GBA NDS+3DS 35 Game Boy GBA NDS 3DS 35 30 30 25 ) s

25 t 20 i ) s n t i 20 u 15 n n u 15 n m 10 ( m ( 10 5 5 0 0 2 4 6 8 0 2 4 6 8 0 2 4 6 0 E E 9 9 9 9 9 0 0 0 0 0 1 1 1 1 8 0 / / / / / / / / / / / / / / E E E 0 2 4 6 8 0 2 4 6 8 0 2 4 6 1 2 3 3 3 3 3 3 3 3 3 3 3 3 3 3 / / 8 0 2 9 9 9 9 9 0 0 0 0 0 1 1 1 1 / / / / / / / / / / / / / / 3 3 Y Y Y Y Y Y Y Y Y Y Y Y Y Y 1 2 2 / / / 3 3 3 3 3 3 3 3 3 3 3 3 3 3 F F F F F F F F F F F F F F Y Y 3 3 3 Y Y Y Y Y Y Y Y Y Y Y Y Y Y F F F F F F F F F F F F F F F F Y Y Y F F F

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Sales for the broader GB and DS series have proven to be long-tailed. Restricting the former to consoles released after Gameboy Pocket, we note the two broader series’ sales cycles lasted around 12 years, gradually heading for a peak-out after registering stable sales (Figures 30-31).

Figure 30: GB and GBA sales trends Figure 31: NDS and 3DS sales trends

25 GAMEBOY ADVANCE DSi Gameboy Pocket Game Boy 35 DS Lite 20 DS i LL Release ) 30 s ) t s i t i n 25 n

15 u

u

n

n 20 3DS

12 years m ( m

( 10 15 NDS 10 12 years 5 5 0 0 5 6 7 8 9 0 1 2 3 4 5 6 7 0 0 0 0 0 1 1 1 1 1 1 1 1 / / / / / / / / / / / / / 3 3 3 3 3 3 3 3 3 3 3 3 3 Y Y Y Y Y Y Y Y Y Y Y Y Y F F F F F F F F F F F F F

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Nintendo (7974) 14 15 September 2017

Both GB and DS have topped 200mn units in all-series sales Nintendo expects Switch sales to reach 130mn units by March 2022, which looks somewhat bullish at first glance. However, if we group consoles into their broader series— GB and DS—we note that both series surpassed 200mn units in sales. In light of this, we think the company’s outlook for 130mn units is well within the historical range and not excessively bullish.

Figure 32: Handheld consoles top 200mn unit sales when redefined into series

250 232 as of end-FY3/22 201 200 154

) 150 s

t 128

i 120 n

u 102

n 100 81 78 m ( 49 50 34 22 14 0 SUPER N64 Game Wii Wii-U Switch Game Boy GBA NDS 3DS GB+GBA NDS+3DS Famicom Cube (CS E) (Super NES) Console Console? Portable CS definition Portable?

Source: Famitsu, Credit Suisse Price cuts and low usage of 3D functions effectively reduce 3DS to NDS ■ 1) Major price reduction from ¥25,000 to ¥15,000 The 3DS was launched in February 2011 as the successor to the NDS console. The new console was initially priced at ¥25,000, but the company significantly lowered the price to ¥15,000 five months post-launch due to lower-than-expected sales. As the DSi LL sold for ¥18,000 at the time, the 3DS price cut resulted in an abnormal situation where the new model cost less than the old. ■ 2) Low usage of 3D functions The 3D function, the main new feature in 3DS consoles, was not well received by consumers; in fact, we understand that a significant number of users had turned off the function while playing on the console. In 2013, Nintendo America launched a 2DS that enabled users to play 3DS games on 2D. Considering that the 2DS is still being sold, the main incentive for purchasing the 3DS console appears to be something other than the 3D function. Narrowing the NDS-to-3DS gap removes the 3DS’s rationale as a separate series As indicated by our two points on price and function, we think the gap between NDS and 3DS has narrowed too greatly to consider the 3DS as a separate series. Figure 33 compares the two series along a single timeline. Looking at the initial DS (launched in 2004) versus the new 2DS LL (2017), we note that the 3D function was removed in the latter for keeping the price at around ¥15,000. Considering that the main differences lie in screen size and compatible software, we find it reasonable to view the two as a single series.

Nintendo (7974) 15 15 September 2017

Figure 33: A comparison of DS series products DS DS Lite DSi DSi LL 3DS 3DS LL new 3DS new 3DS LL 2DS new 2DS LL

Launch date Dec-04 Mar-06 Nov-08 Nov-09 Feb-11 Jul-12 Oct-14 Oct-14 Feb-16 Jul-17 Basic specs Price ¥15,000 ¥16,800 ¥18,900 ¥20,000 ¥15,000 ¥18,900 ¥16,800 ¥18,800 ¥9,800 ¥14,980 LCD size 3.0 inch 3.0 inch 3.25 inch 4.2 inch 3.53 inch 4.88 inch 3.88 inch 4.88 inch 3.53 inch 4.88 inch Weight 275g 218g 214g 314g 235g 336g 253g 329g 260g 260g Camera × × ○ ○ ○ ○ ○ ○ ○ ○ 3D capability × × × × ○ ○ ○ ○ × ×

Compatible software GBA software ○ × × × × × × × × × DS software ○ ○ ○ ○ △ △ △ △ △ △ DSi software × × ○ ○ ○ ○ ○ ○ ○ ○ 3DS software × × × × ○ ○ ○ ○ ○ ○ New 3DS software × × × × × × ○ ○ × ○ amiibo × × × × △ △ ○ ○ △ ○

Note 1: 3DS retail price is post-price reduction Note 2: △ denotes limitations on game play and accessories Source: Company data, Credit Suisse

Nintendo (7974) 16 15 September 2017

Revising attach rate outlook Revising our attach rate outlook to be on a par with handheld consoles, given expectations of comparable uptake rates Handheld consoles usually have lower software attach rates than stationary game consoles. This is usually attributed to serious gamers favoring the stationary console, while the handheld console is seen as oriented more toward casual users with few hardcore games using handheld devices, but we believe the price of hardware also plays a significant role. Psychological factor The new 2DS LL is currently priced at ¥14,980, while the Wii, which had a higher attach behind the relationship rate, was priced at ¥25,000. We believe this can also be attributed to the psychological between attach rates factor that having purchased expensive hardware the user will aim to derive maximum and hardware price value from the purchase. In fact, as shown in Figure 36, Nintendo’s hardware to software sales ratio has remained constant at roughly 6:4. We believe this highlights consumers’ unconscious efforts to balance their spending on hardware and software. As for the Switch (retail price ¥29,980), we see prospects for the attach rate becoming a positive. particularly in hardware pricing. However, it remains to be seen how users respond to the new hardware design. We thus incorporate into our outlook relatively modest attach rates closer to those for the previous generation of handheld consoles. Still upside Figure 35: Lowering attach rate Figure 34: Handheld consoles tend to outlook to be on par with the have lower attach rates historical NDS average

10 x Switch (Old CSE) 10 x Switch (New CSE) 8 x NDS Switch (CoE) 8 x 6 x 3DS 6 x 4 x 4 x 2 x Wii 2 x 0 x 0 x 1 2 3 4 5 6

Wii-U 1 2 3 4 5 r r r r r r

r r r r r a a a a a a a a a a a e e e e e e e e e e e Y Y Y Y Y Y Y Y Y Y Y

Source: Company data, Credit Suisse Source: Company data, Credit Suisse estimates

Figure 37: Switch could enjoy both the high attach rates of stationary Figure 36: Hardware/software sales consoles and high market penetration ratio constant at around 6:4 of handhelds

100% Attach rate 90% Low High 80% 70% Conventional 60% Smaller 50% home console e

40% Software s a b

30% Hardware l l

20% a t

10% s Conventional Positive n 0% I Bigger handheld scenario for console Switch

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Nintendo (7974) 17 15 September 2017

Attach rate sensitivity: Although the figures vary significantly depending on the fiscal year, we estimate roughly ¥80bn for each Nintendo’s OP sensitivity at around ¥80bn for each 1x change in the peak FY attach rates. 1x Figure 38: Analysis of FY peak sales volume and attach rate sensitivity

NDS

Wii Switch

Peak OP Switch - Peak sales units (''000) (JPY bn) 15,000 20,000 25,000 30,000 35,000 40,000 2 x 190 190 190 190 190 190 3 x 230 240 250 270 280 290 4 x 270 290 320 340 370 390 e

t 5 x 310 350 380 420 460 500 a r

6 x 350 400 450 500 550 600 NDS h

c 7 x 390 450 510 580 640 710 a

t Wii

t 8 x 430 500 580 660 730 810 A 9 x 460 550 640 730 820 910 10 x 500 610 710 810 910 1,020 11 x 540 660 770 890 1,000 1,120

Source: Company data, Credit Suisse estimates Expecting production capacity to rise to 2.5mn units/month; peak FY capacity of 30mn units within reach Nintendo’s recent domestic sales data confirm a boost from higher output since July. We estimate Nintendo’s monthly production capacity will rise to around 2.5mn units. We see ample prospects for the peak to extend out to FY3/20–21 and believe annual output of 30mn units is well within reach. We note that the NDS’s peak FY output reached 31mn units.

Figure 39: Switch’s domestic sell- Figure 40: Boost from higher output through: Positive growth likely QoQ since July

Japan Sell-through(quarterly) Japan Sell-through(weekly)

0.7 2.0

) 0.6 s ) t

i 1.5 s t n

0.5 i u n

u n 0.4 1.0 n m (

0.3 m ( 0.2 0.5 0.1 0.0 0.0 Jan-Mar Apr-Jun Jul-Sep (QTD)

Source: Famitsu, Credit Suisse estimates Source: Famitsu, Credit Suisse estimates

Nintendo (7974) 18 15 September 2017

Prospects for long-tail sales driven by minor changes Switch color variations suggests scope for device personalization The Switch already has The Switch’s design consists of a separate main unit (the screen section) and Joy-Con multiple color controller. Although the hardware part is available only in gray, Nintendo offers multiple variations color variations for the controller. We believe it is reasonable to look for hardware color variations and minute design changes in the latter part of the sales cycle.

Figure 41: Joy-Con already available in multiple color variations

Source: Nintendo website

Figure 42: Pro controller and Joy-Con strap color variations launched with the release of Splatoon 2

Source: Nintendo website

Nintendo (7974) 19 15 September 2017

Exclusive-use personal device reflecting user identity iPhone attracting In the digital device space overall, it is common to see makers introducing minor changes consumers with a to products that have already attained a certain level of user uptake, which in addition to number of minor driving prospects for product uptake also boosts replacement demand among existing changes users. We view the iPhone series, with its yearly model and minor changes each year, as a fairly successful example of such long-tail sales. TVs are not personal TVs belong to the same category of electronic devices, but they are unlikely to be viewed devices even though as personal devices. For example, a user in a single-person household may own a TV set they may be exclusive that is exclusive to the user. Even if new hardware colors such as red, blue, gold, pink, or to the user green are introduced to the TV, the number of users that consider a replacement is likely to be small. This does not depend on whether the user owns the TV as an exclusive device or not, but whether the user sees it as a personal device that reflects his/her identity. The point we emphasize here is that factors such as portability and exclusivity of a TV set do not decide whether it constitutes a personal device in the mind of the user. A true personal device Conversely, a smartphone’s color at the very least reflects the identity of the owner. reflects the identity of Moreover, it is also obvious from the experience of users that minor differences fuel the user consumption. A typical example of this is the iPhone, where a minor change in the screen size or casing color has constantly aroused user interest.

Figure 43: iPhone successful in long-tail sales through periodic minor changes and model changes

Source: Credit Suisse, IDC

Nintendo (7974) 20 15 September 2017

Previous minor changes Even taking the period since the introduction of the lighter-weight GB Pocket as one cycle, we note that both the GB series and DS series (as broadly defined above) had a long sales cycle of roughly 12 years. Considering that the life cycle of game hardware is usually around five years (in the absence of minor changes), we believe the GB and DS series proved to be major hits due to Nintendo’s moves to constantly attract customers by introducing minor changes and its efforts to fuel replacement demand during the 12-year product cycle.

Figure 44: In addition to color variations, Nintendo also introduced several minor size and spec changes

Source: Nintendo HP

Figure 45: GB and GBA sales trends Figure 46: NDS and 3DS sales trends

25 GAMEBOY ADVANCE DSi Gameboy Pocket Game Boy 35 DS Lite 20 DS i LL Release ) 30 s ) t s i t i n 25 n

15 u

u

n

n 20 3DS

12 years m ( m

( 10 15 NDS 10 12 years 5 5 0 0 5 6 7 8 9 0 1 2 3 4 5 6 7 0 0 0 0 0 1 1 1 1 1 1 1 1 / / / / / / / / / / / / / 3 3 3 3 3 3 3 3 3 3 3 3 3 Y Y Y Y Y Y Y Y Y Y Y Y Y F F F F F F F F F F F F F

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Nintendo (7974) 21 15 September 2017

Minor changes in handheld and stationary consoles differ by an order of magnitude DS series attracts Nintendo attained a broad-based uptake for its NDS, 3DS, 2DS series consumer interest through constant introduction of minor changes and color variations through a variety of minor changes Nintendo's frequent introduction of minor changes to its handheld consoles (Figures 47– 49) has managed to attract customers. We believe the factor also drove the handheld consoles’ long sales cycle, which was inevitable under the company's aim to constantly introduce new variations.

Figure 47: History of minor changes since 2004 (NDS, 3DS, 2DS, Wii, WiiU)

Handheld console Home console DS Launch date 3DS LL Launch date Wii console Launch date PlatinumSilver 12/2/2004 Red x Black 7/28/2012 Console - white 12/2/2006 Graphite Black 3/24/2005 Silver x Black 7/28/2012 Console - black 8/1/2009 Pure White 3/24/2005 White 7/28/2012 Turquoise Blue 4/21/2005 Pink x White 9/27/2012 Wii controller Candy Pink 4/21/2005 Blue x Black 10/11/2012 White (Shiro) 12/2/2006 Black 11/1/2012 Black (Kuro) 8/1/2009 DS Lite Mint x White 4/18/2013 Ao (Blue) 12/3/2009 Crystal White 3/2/2006 Pink 12/3/2009 Ice Blue 3/11/2006 new 3DS Red 11/11/2010 Enamel Navy 3/11/2006 White 10/11/2014 Mario 11/21/2013 Noble Pink 7/20/2006 Black 10/11/2014 Luigi 11/21/2013 Jet Black 9/2/2006 Peach 5/29/2014 Metalic Rose 6/23/2007 new 3DS LL Yoshi 5/29/2014 Gloss Silver 6/23/2007 Metalic Blue, Metalic Black 10/11/2014 Koopa 3/12/2015 Crymson/Black 10/4/2007 Pearl White 6/11/2015 Kinopio 3/12/2015 Metalic Red 8/27/2015 DSi RimeｘBlack、PinkｘWhite 6/9/2016 WiiU console White 11/1/2008 Basic set (shiro) 12/8/2012 Black 11/1/2008 2DS Premium set (kuro) 12/8/2012 Pink 3/20/2009 Black + Blue 10/12/2013 Premium set (shiro) 7/13/2013 Rime Green 3/20/2009 Electric Blue 10/12/2013 Red 7/11/2009 Black + Red 10/12/2013 Crimson Red 10/12/2013 DSi White + Red 10/12/2013 Dark Brown 11/21/2009 Scarlet Red 10/12/2013 Wine Red 11/21/2009 Pink + White 5/16/2014 Natural White 11/21/2009 White + Green 6/6/2014 Blue 6/19/2010 Sea Green 6/6/2014 Yellow 6/19/2010 Transparent Red 11/28/2014 Green 6/19/2010 Transparent Blue 11/28/2014 Transparent Yellow 9/15/2016 3DS Transparent Green 9/15/2016 Aqua Blue 2/26/2011 Transparent Black 9/15/2016 Cosmo Black 7/14/2011 Red 9/15/2016 Flare Red 10/25/2011 Crimson Red 2 NA 9/15/2016 Misty Pink 11/3/2011 Blue 9/15/2016 Ice White 3/22/2012 Electric Blue 2 NA 9/15/2016 Cobalt Blue 3/20/2013 Lavender 9/15/2016 Gloss Pink 3/20/2013 Pink 9/15/2016 Metalic Red 6/13/2013 White + Yellow 12/15/2016 Pure White 10/10/2013 ClearBlack 10/10/2013 new 2DS LL Black x Turquoise 7/13/2017 White x Orange 7/13/2017

Source: Company data, Credit Suisse

Figure 48: Minor changes in the DSi Figure 49: Minor changes in the NDS

Source: Nintendo HP Source: Nintendo HP

Nintendo (7974) 22 15 September 2017

Near-term catalyst: upward revision at 2Q (Jul–Sep) results Profits concentrated in Oct–Dec; expecting lift to full- year guidance if 1H progress is around 50% Share price momentum likely to turn favorable again if that happens We expect Nintendo to raise guidance at Jul–Sep results as Switch sales volumes have beaten expectations. If the company raises guidance, we think it will have a positive impact on the share price, which has been subject to a news flow shortage since July. The greater the upward revision, the more likely will be peak quarterly, annual ratios Nintendo's business has historically been weighted toward the year-end sales rush in Oct– Dec, making 1H (Apr–Sep) progress toward full-year guidance lower than 50%. In FY3/18 thus far, however, sales of the Switch—the main earnings driver—totaled over 2.0mn units in Apr–Jun, or 20% of the full-year target. Moreover, we forecast Jul–Sep sales of over 3.5mn units (55% cumulative progress), as we expect sales to increase QoQ due to higher production. This is easily enough to support expectations of an upward revision to guidance.

Figure 50: Switch unit-sales forecasts (by quarter)

7 Switch HW units 6 6.0 ) s t

i 5 n u

4 n 3.5 3.5 m ( 3 2.7 2 2.0 1 0 4Q 1Q 2QE 3QE 4QE FY3/17 FY3/18

Source: Company data, Credit Suisse estimates Possibility of full-year sales guidance of around 15mn units should also eliminate concerns about production in the longer term We raise our full-FY3/18 sales forecast from 12mn to 15mn units. A guidance beat like this is already the consensus forecast. Amid expectations of an upward revision to guidance, a company announcement of a FY3/18 target of 15mn units (in line with our forecast and +50% vs. initial guidance) would likely eliminate production concerns giving investors reason to price in a bullish scenario for the Switch.

Nintendo (7974) 23 15 September 2017

Figure 51: Oct–Dec sales are typically Figure 52: We forecast sales of over large 6mn units in Oct–Dec, 31mn in FY3/21

9 Oct-Dec Oct-Dec 35 5.0x 8 2011 31 7 2007 30 Switch Oct-Dec ) ) 6 s t s 25 3.0x i t Wii (FY18/3CoE) i

5 2005 n n u

u Oct-Dec 20

4 Wii-U n n

2012 m

3 ( m 15 ( NDS Switch 2 10 10 (FY21/3 CSE) 1 3DS FY18/3 1Q(actual) 6 0 5 2 Q Q Q Q Q Q Q Q

t d h h h h h d 0 s t t t t t r n 1 4 5 6 7 8 3 2 Bottom - Q Peak - Q Peak - FY

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates Expecting third-party software developers to unveil new titles at the Tokyo Game Show We see little likelihood Nintendo will announce major in-house-developed titles in the near term as it is not scheduled to show its wares at the Tokyo Game Show over 21–24 September. However, as numerous third-party software developers will attend the show, we could see third-party software developers unveil major titles. The centerpiece of the year-end sales rush is currently Nintendo's Super Mario Odyssey. However, any announcement of new titles would like induce further Switch growth expectations.

Figure 53: Main Switch titles

Release date Title Price Developer 4/28/2017 MARIO KART 8 DELUXE ¥5,980 Nintendo 5/26/2017 ULTRA STREET FIGHTER II ¥4,990 CAPCOM 6/16/2017 ARMS ¥5,980 Nintendo 6/30/2017 Zelda: Breath of the Wild's (first DLC) ¥2,500 Nintendo 7/21/2017 Splatoon 2 ¥2,500 Nintendo 8/25/2017 Monster Hunter XX ¥5,980 CAPCOM 8/29/2017 Mario + Rabbids Kingdom Battle $59.99 Ubisoft 9/7/2017 DRAGONBALL XENOVERSE 2 BandaiNamco 9/21/2017 Dragon Quest X: All In One Package ¥6,800 SQEX 9/22/2017 POKKÉN TOURNAMENT DX ¥4,800 BandaiNamco 9/28/2017 Fire Emblem Warriors ¥5,980 KoeiTecmo 9/29/2017 FIFA 18 Electronic Arts 10/27/2017 SUPER MARIO ODYSSEY ¥7,800 Nintendo 12/1/2017 XENOBLADE CHRONICLES 2 Nintendo 2018 Spring Kirby Star Allies Nintendo 2018 YOSHI for Nintendo Swtic h (TBA) Nintendo 2018 or later Pokemon (TBA) Nintendo（Pokemon)

Note: Highlight indicates Nintendo titles Source: Company data, Credit Suisse

Nintendo (7974) 24 15 September 2017

Forecasts for non-Switch products 2DS likely to become the core handheld Stepped cut in expected price of handhelds from ¥15,000 to ¥9,000, envisaging shift from 3DS to 2DS Nintendo's current handheld is the 3DS series. The 2DS series is currently included within the 3DS numbers released by the company, but we believe this series will effectively become the company's core handheld product from next year. Our expectation for a strategic move from the 3DS to the 2DS is grounded on (1) substantial 3DS market penetration at around 70mn units at end-FY3/17, (2) 3DS users who prefer high-end products replacing their existing units with the Switch, and (3) 3DS users who prefer low- end devices replacing their current handhelds with the 2DS.

Figure 54: 3DS (including 2DS) Figure 55: 3DS (including 2DS) sales average unit price volume

3DS ¥16,000 16 ¥14,000 14 ¥12,000 12 ) s

t 10

¥10,000 i n u

8

¥8,000 n m

( 6 ¥6,000 ASP (3DS, 2DS) 4 ¥4,000 2 ¥2,000 0 ¥0 FY3/17 FY3/18E FY3/19E FY3/20E

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates Modest revision to smartphone app forecasts Animal Crossing appears to be getting off to a slow start. The company has scaled down its take-off expectations to “slow.”

Figure 56: Nintendo lowers its Figure 57: Smart device business smartphone app sales forecasts forecasts

250 300 New Smart device Sales 216 216 250 Old 200 168

) Smart device OP )

200 n n 150 b

b 108

107 107 Y

Y 150

P 83 P J 100 J ( ( 100 44 53 50 19 21 50 1 0 9 0 0

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Nintendo (7974) 25 15 September 2017

Valuation: raising value of game console business from ¥2.7tn to ¥4.7tn Focusing on the Switch; smartphone apps also look promising in the long term 1) Applying P/E ex-cash to game console business 1) Raising value of We have used ex-cash P/E (calculated using EPS and the company's market cap less traditional game cash balance) to estimate Nintendo's share price to date (prior to the smart device launch). console business from We think valuations that do not exclude cash are inappropriate as they are highly volatile ¥2.7tn to ¥4.7tn (P/E was stable at around 5–25x regardless of results before the period of losses). We therefore think valuations using P/E excluding cash are fair. We forecast consolidated OP in FY3/20–21, when we expect the Switch's profit contribution to peak at ¥497.3bn. Subtracting our forecast of OP generated by smart devices (¥94.9bn) leaves ¥402.4bn. Applying a corporate income tax of 35% to this gives NP of ¥331.0bn. In view of the change in our forecast for the timing of the Switch's peak profit contribution from FY3/19 to FY3/20–21, we include a one-year time value of money discount and accordingly lower our target P/E multiple from 20x to 18x, thus increasing our valuation of the existing game console business from ¥2.7tn to ¥4.7tn.

Figure 58: Expecting historical high OP due to strength of the Switch

Operating Profit 600 Other Smart device, IP Software Hardware 500 124 103 400 124

) 300 511

n 407

b 320 58 298 Y 280

P 200

J 219 ( 186 165 100 156 27 89 77 74 115 5 91 87 95 69 39 41 46 34 61 32 2114 38 0 -0 14 -4 -7 -33 -83 -82 -37 -100 -154

-200

Source: Company data, Credit Suisse estimates

Figure 59: Outside of the reported OP losses, P/E has tracked around 5–25x; maintained high multiples until the year prior to peak

60 x OP(RHS) Stock traded on 600 50 x Ex cash PE high P/E until peak 500 last fiscal year 40 x 400 )

30 x 300 n b

20 x 200 Y P J

10 x 100 ( 0 x 0 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7

-10 x 9 9 9 0 0 0 0 0 0 0 0 0 0 1 1 1 1 1 1 1 1 -100 ------y y y y y y y y y y y y y y y y y y y y y a a a a a a a a a a a a a a a a a a a a a M M M M M M M M M M M M M M M M M M M M M

Source: Company data, Credit Suisse estimates, Thomson Reuters Datastream

Nintendo (7974) 26 15 September 2017

2) Using DCF to value smart devices business 2) Valuing smart device We use discounted cash flow to value Nintendo's smart device business as we see it as a business at ¥1.259tn growth business that generates stable cash and uses a different business model than the existing game console business. Under this DCF approach, we apply a market risk premium of 6.65% and a risk-free rate of 0.1%. Based on actual figures, we set a WACC of 8.28%, with debt at zero and beta of 1.23 (past five years, adjusted). We forecast earnings though FY3/21, while for business valuations from FY3/22 we continue to apply a P/E of 15.0x—the average of the three major global handheld game companies (Nintendo, Tencent, and Netease)—to our FY3/21 EBITDA forecasts for the company's smart devices business. Based on the above, we estimate the value of the smart devices business at ¥1.259tn (previously ¥1,461tn).

Figure 60: We estimate the value of the smart devices business at ¥1,259tn DCF Analysis 1.74 (JPY mn) Assumptions FCF estimates # of shares 120,129,323 3/18E 3/19E 3/20E 3/21E 3/22E Net debt (17/3A) (662,763) OP (Smart device business) 20,905 52,905 82,905 106,905 106,905 Exit EV/EBITDA Multiple 15.0x Tax rate 35% 35% 35% 35% 35% EBIAT 13,588 34,388 53,888 69,488 69,488 WACC Calculation Depreciation & Amortization - - - - - Risk free rate 0.10% Other non-cash cost - - - - - Beta (5year, adjusted) 1.23 EBITDA 20,905 52,905 82,905 106,905 106,905 Mkt. Risk Premium 6.65% Net working capital - - - - - Cost of Equity 8.28% CAPEX - - - - - Interest rate 1.00% FCF 13,588 34,388 53,888 69,488 69,488 After-tax cost of debt 0.65% Year 1.00 2.00 3.00 4.00 5.00 D/E ratio 0.0x Discount rate 0.92 0.85 0.79 0.73 0.67 WACC 8.28% Present Value 12,549 29,331 42,448 50,551 46,685

(a) Present Value Current - 3/22E 181,564 (b) Terminal Value 1,077,357 (c) Enterprise Value (a) + (b) 1,258,921 (d) Net Debt (3/17A Smart device only) - (e) Market Value (Smart device only) (c) - (d) 1,258,921

Source: Company data, Credit Suisse estimates

Figure 61: EV/EBITDA: Global smart devices and game stocks

Activision Blizzard ELECTRONIC ARTS TENCENT HOLDINGS

35 x APPLE ALPHABET 'A' NETEASE

30 x Nintendo

25 x

A 21.0 x

D 20 x

T 17.8 x I B

E 16.1 x / 15.2 x

V 15 x E 12.0 x 10 x 11.2 x

6.3 x 5 x

0 x

Source: Company data, Credit Suisse estimates, Thomson Reuters Datastream

Nintendo (7974) 27 15 September 2017

3) Adding end-FY3/17 balance to cash value 3) Adding cash balance The balance of cash in FY3/17 was around ¥660bn. We add it back here as we apply P/E of ¥660bn ex cash to the existing game console business in (1) above. Cash value per share is around ¥5,500.

Figure 62: Adding end-FY3/16 balance to cash value

2,000

1,800

1,600 Cash balance Sales 1,400

1,200

) 1,000 n b

Y 800 P J ( 600

400

200

0 E E E E 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 9 9 9 9 9 9 9 9 9 9 0 0 0 0 0 0 0 0 0 0 1 1 1 1 1 1 1 1 / / / / / / / / / / / / / / / / / / / / / / / / / / / / 1 1 2 2 / / / / 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 3 Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y Y F F F F F F F F F F F F F F F F F F F F F F F F F F F F Y Y Y Y F F F F

Source: Company data, Credit Suisse estimates

Figure 63: Nintendo share price rose more than five-fold over two years during previous earnings peak

¥80,000 ¥70,000 Nintendo ¥60,000 ¥50,000 ¥40,000 ¥30,000 ¥20,000 ¥10,000 ¥0 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 9 9 9 0 0 0 0 0 0 0 0 0 0 1 1 1 1 1 1 1 1 ------p p p p p p p p p p p p p p p p p p p p p e e e e e e e e e e e e e e e e e e e e e S S S S S S S S S S S S S S S S S S S S S

Source: Thomson Reuters Datastream, Credit Suisse

Nintendo (7974) 28 15 September 2017

Summing up 1–3, we From 1–3 above, we calculate a total fair value for the company of ¥6.6tn. We calculate a calculate a TP of fair share price of ¥55,187and set a target price of ¥55,000. ¥55,000 Figure 64: Derivation of SOTP target price

Estimated fair Fair value share value: ¥6.6tn price: ¥55,187 Calculated using four- 100% year DCF model. 90% ¥1,258,921 EV/EBITDA of 15x used Divide by total ¥10,480 1) Smart device mn for terminal value number of 80% shares 70% Ex-cash P/E of 18x to calculate per- 60% applied to FY3/20-21 share value 50% 2) Game console operating profit ¥4,707,933 forecast - contribution ¥39,191 40% mn of smart devices 30% (¥330 bn) 20% 3) Cash balance Cash balance at end- 10% FY3/17: ¥660b ¥662,763 mn ¥5,517 0% Business and cash value Share price breakdown

Source: Company data, Credit Suisse estimates, Thomson Reuters Datastream

Our target price is based on a fair-value P/E of 18x. We lower our target P/E from 20x after including a one-year time value of money discount to reflect the longer interval to peak sales. We expect valuation multiples to gradually rise as we approach the earnings peak we anticipate in FY3/20–21.

Figure 65: P/E and expected share price

1) Smart device 2) Game console 3) Cash balance Estimated price Estimated JPY 77,000 price ¥90,000 Estimated price JPY 66,000 ¥80,000 Estimated JPY 55,000 price ¥10,480 ¥70,000 Estimated JPY 44,000 ¥60,000 price ¥10,480 ¥50,000 JPY 33,000 ¥10,480 ¥40,000 ¥10,480 ¥60,963 ¥30,000 ¥50,077 ¥10,480 ¥39,191 ¥20,000 ¥28,304 ¥10,000 ¥17,418 ¥0 ¥5,517 ¥5,517 ¥5,517 ¥5,517 ¥5,517 P/E 8x P/E 13x P/E 18x P/E 23x P/E 28x

FY3/18 FY3/19 FY3/20

Source: Company data, Credit Suisse estimates

Nintendo (7974) 29 15 September 2017

Earnings forecasts Revising Switch earnings peak from FY3/19 to FY3/20–21; raising peak sales ‒ 15mn to 31mn units FY3/18 forecasts We forecast OP of ¥80.4bn (previously ¥86.1bn, I/B/E/S consensus ¥129.6bn). Switch sales volume assumptions: hardware 15.0mn units, software 58.7mn. Smart devices and IP-related sales assumptions: we forecast ¥49.3bn/year (including app sales of ¥44.0bn). FY3/19 forecasts We forecast OP of ¥258.1bn (previously ¥232.5bn, I/B/E/S ¥234.2bn). Switch sales volume assumptions: hardware 22.5mn units, software 119.7mn. Smart devices and IP-related sales assumptions: we forecast ¥113.3bn/year (including app sales of ¥108.0bn). FY3/20 forecasts We forecast OP of ¥470.1bn (previously ¥308.6bn, I/B/E/S ¥314.0bn). Switch sales volume assumptions: hardware 29.6mn units, software 181.9mn. Smart devices and IP-related sales assumptions: we forecast ¥173.3bn/year (including app sales of ¥168.0bn). FY3/21 forecasts We forecast OP of ¥524.5bn (previously ¥337.3bn, I/B/E/S ¥320.9bn). Switch sales volume assumptions: hardware 30.7mn units, software 194.4mn. Smart devices and IP-related sales assumptions: we forecast ¥221.3bn/year (including app sales of ¥216.0bn). FY3/22 forecasts We forecast OP of ¥398.5bn (I/B/E/S ¥284.4bn). Switch sales volume assumptions: hardware 27.4mn units, software 153.2mn. Smart devices and IP-related sales assumptions: we forecast ¥221.3bn/year (including app sales of ¥216.0bn).

Figure 66: Switch sales volume Figure 67: Switch attach rate forecasts assumptions

300 Switch - HW (CS E) Switch (Old CSE) Switch (New CSE) 250 Switch - SW (CS E) 10 x 194 Switch (CoE) 182 8 x 200 153

) 150 120 6 x s t i

n 100 59 4 x u 30 31 n 23 27 50 3 5 15 2 x m ( 0 0 x E E E E E 7 1 2 3 4 5 6 8 9 0 1 2 1

/ r r r r r r 1 1 2 2 2 / / / / / 3 a a a a a a 3 3 3 3 3 Y e e e e e e F Y Y Y Y Y Y Y Y Y Y Y F F F F F

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Nintendo (7974) 30 15 September 2017

Figure 68: Income statement

(Y million) FY3/14 FY3/15 FY3/16 FY3/17 FY3/18E FY3/19E FY3/20E FY3/21E FY3/22E FY3/18E CoE Sales 571,726 549,780 504,459 489,095 831,423 1,196,374 1,599,062 1,700,343 1,485,895 750,000 YoY% -10% -4% -8% -3% 70% 44% 34% 6% -13% 53%

Cost of sales 408,506 335,196 283,494 290,197 507,573 694,803 885,487 932,332 843,857 NA COGS 71.5% 61.0% 56.2% 59.3% 61.0% 58.1% 55.4% 54.8% 56.8% NA Gross profit 163,220 214,584 220,965 198,898 323,850 501,572 713,575 768,011 642,038 NA

SG&A costs 209,645 189,814 188,084 169,535 243,450 243,500 243,500 243,500 243,500 NA SG&A / sales 36.7% 34.5% 37.3% 34.7% 29.3% 20.4% 15.2% 14.3% 16.4% NA

Operating Profit -46,425 24,770 32,881 29,363 80,400 258,072 470,075 524,511 398,538 65,000 YoY% NA NA 33% -11% 174% 221% 82% 12% -24% 121% OP margin% -8.1% 4.5% 6.5% 6.0% 9.7% 21.6% 29.4% 30.8% 26.8% 8.7%

Non-operating profit / loss 52,512 45,760 -4,091 21,002 25,900 25,900 25,900 25,900 25,900 -5,000 Non-operating profit 53,136 46,043 14,550 28,593 28,200 28,200 28,200 28,200 28,200 NA Non-operating loss 624 283 18,641 7,591 2,300 2,300 2,300 2,300 2,300 NA

Recurring Profit 6,086 70,530 28,790 50,364 106,300 283,972 495,975 550,411 424,438 60,000 YoY% -42% 1059% -59% 75% 111% 167% 75% 11% -23% 19% RP margin% 1.1% 12.8% 5.7% 10.3% 12.8% 23.7% 31.0% 32.4% 28.6% 8.0% Extraordinary profit 4,843 1,561 -1,075 64,366 0 0 0 0 0 NA

Pretax profit 10,929 72,091 27,715 114,730 106,300 283,972 495,975 550,411 424,438 NA YoY% 7% 560% -62% 314% -7% 167% 75% 11% -23% NA Pretax profit margin% 1.9% 13.1% 5.5% 23.5% 12.8% 23.7% 31.0% 32.4% 28.6% - Taxes 34,131 30,228 11,196 12,147 37,205 99,390 173,591 192,644 148,553 NA Effective tax rate 312.3% 41.9% 40.4% 10.6% 35.0% 35.0% 35.0% 35.0% 35.0% -

Net Profit -23,222 41,843 16,506 102,575 69,087 184,574 322,376 357,759 275,877 45,000 YoY% NA NA -61% 521% -33% 167% 75% 11% -23% -56% NP margin% -4.1% 7.6% 3.3% 21.0% 8.3% 15.4% 20.2% 21.0% 18.6% 6.0%

Shares outstanding ('000) 118,374 118,372 120,129 120,128 120,128 120,128 120,128 120,128 120,128 EPS (¥) -¥196 ¥353 ¥137 ¥854 ¥575 ¥1,536 ¥2,684 ¥2,978 ¥2,297 ¥375 DPS (¥) ¥100 ¥180 ¥150 ¥430 ¥288 ¥768 ¥1,342 ¥1,489 ¥1,148 ¥190

Source: Company data, Credit Suisse estimates

Nintendo (7974) 31 15 September 2017

Figure 69: Earnings by segment (Y million, %) FY3/10 FY3/11 FY3/12 FY3/13 FY3/14 FY3/15 FY3/16 FY3/17 FY3/18E FY3/19E FY3/20E FY3/21E FY3/22E FY3/18E CoE FX rate 58,674 53,526 51,369 103,805 135,415 170,272 175,369 158,559 USD 93 86 79 83 100 110 120 108 110 110 110 110 110 EUR 131 113 109 107 134 139 133 119 120 120 120 120 120 Sales (Y mn) 1,434,365 1,014,345 647,652 635,422 571,726 549,780 504,459 489,095 831,423 1,196,374 1,599,062 1,700,343 1,485,895 750,000 YoY% -22% -29% -36% -2% -10% -4% -8% -3% 70% 44% 34% 6% -13% -10% Hardware 863,866 610,401 387,508 396,347 316,026 293,370 267,630 256,847 519,023 677,074 851,362 876,843 792,795 YoY% -26% -29% -37% 2% -20% -7% -9% -4% 102% 30% 26% 3% -10% Handheld 380,879 298,653 234,604 227,224 201,767 149,616 113,239 101,957 74,637 41,483 34,558 31,416 30,167 Console 378,462 242,851 116,022 136,852 89,569 105,548 102,404 94,614 379,950 569,925 749,768 777,631 694,042 Other (Incl. amiibo) 104,525 68,897 36,882 32,271 24,690 38,204 51,986 60,276 64,436 65,666 67,036 67,796 68,586 Software 567,724 402,229 258,592 237,539 253,826 255,273 229,517 206,284 266,300 408,800 576,700 603,900 472,800 YoY% -16% -29% -36% -8% 7% 1% -10% -10% 29% 54% 41% 5% -22% Smart device, IP 5,734 24,250 49,250 113,250 173,250 221,250 221,250 YoY% - 323% 103% 130% 53% 28% 0% Other 2,775 1,715 1,552 1,536 1,874 1,137 1,577 1,714 2,100 2,500 3,000 3,600 4,300 YoY% -15% -38% -10% -1% 22% -39% 39% 9% 23% 19% 20% 20% 19% CoGS (Y mn) 859,131 626,379 493,997 495,068 408,506 335,196 283,494 290,197 507,573 694,803 885,487 932,332 843,857 Hardware 658,092 465,732 426,958 369,414 281,899 228,711 171,674 170,658 391,933 488,307 620,448 638,669 572,481 YoY% -32% -29% -8% -13% -24% -19% -25% -1% 130% 25% 27% 3% -10% Handheld 251,550 216,050 270,343 203,814 189,024 132,787 81,699 87,240 78,563 42,691 34,891 31,305 29,828 Console 406,542 249,682 156,615 165,600 92,875 95,923 84,745 81,508 310,500 442,463 582,084 603,716 538,821 Other (Incl. amiibo) 5,230 1,910 2,870 3,153 3,473 3,648 3,832 Software 201,039 160,647 67,039 125,654 126,607 106,485 111,453 110,040 93,640 152,496 181,039 185,663 163,376 YoY% 162% -20% -58% 87% 1% -16% 5% -1% -15% 63% 19% 3% -12% Smart device, IP 367 9,500 22,000 54,000 84,000 108,000 108,000 YoY% 2489% 132% 145% 56% 29% 0% Gross Profit (Y mn) 575,234 387,965 153,654 140,354 163,219 214,584 220,965 198,898 323,850 501,572 713,575 768,011 642,038 NA Hardware 101,249 75,772 -76,332 -5,338 9,437 26,453 49,199 27,824 65,524 126,255 167,351 174,026 155,560 Handheld 129,329 82,603 -35,739 23,410 12,743 16,829 31,540 14,717 -3,926 -1,208 -333 111 339 Console -28,080 -6,831 -40,593 -28,748 -3,306 9,625 17,659 13,106 69,450 127,463 167,684 173,916 155,221 amiibo 0 6,720 17,540 6,380 9,580 10,527 11,577 12,162 12,768 Software 366,685 241,582 191,553 111,885 127,219 148,788 118,064 96,244 172,660 256,304 395,661 418,237 309,424 YoY% -39% -34% -21% -42% 14% 17% -21% -18% 79% 48% 54% 6% -26% Smart device, IP 5,367 14,750 27,250 59,250 89,250 113,250 113,250 YoY% - 175% 85% 117% 51% 27% 0% Other 2,775 1,715 1,552 1,536 1,874 1,137 1,577 1,714 2,100 2,500 3,000 3,600 4,300 YoY% -15% -38% -10% -1% 22% -39% 39% 9% 23% 19% 20% 20% 19% GPM% 40.1% 38.2% 23.7% 22.1% 28.5% 39.0% 43.8% 40.7% 39.0% 41.9% 44.6% 45.2% 43.2% NA Hardware 11.7% 12.4% -19.7% -1.3% 3.0% 9.0% 18.4% 10.8% 12.6% 18.6% 19.7% 19.8% 19.6% Handheld 34% 28% -15% 10% 6% 11% 28% 14% -5% -3% -1% 0% 1% Console -7% -3% -35% -21% -4% 9% 17% 14% 18% 22% 22% 22% 22% amiibo 18% 34% 11% 15% 16% 17% 18% 19% Software 64.6% 60.1% 74.1% 47.1% 50.1% 58.3% 51.4% 46.7% 64.8% 62.7% 68.6% 69.3% 65.4% Smart device, IP 93.6% 60.8% 55.3% 52.3% 51.5% 51.2% 51.2% Other 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Operating profit (Y mn) 356,567 171,076 -37,320 -36,410 -46,425 24,770 32,881 29,363 80,400 258,072 470,075 524,511 398,538 65,000 Hardware 74,079 14,152 -153,715 -83,325 -81,756 -36,628 -3,828 -7,199 -32,694 38,020 86,752 94,979 68,836 Software 280,137 155,577 115,301 45,806 34,144 60,654 32,491 21,240 90,678 165,286 298,008 319,616 219,087 Smart device, IP 5,126 14,203 26,155 58,155 88,155 112,155 112,155 Other 2,352 1,348 1,094 1,109 1,187 744 989 1,120 1,510 1,910 2,410 3,010 3,710 OPM% 24.9% 16.9% -5.8% -5.7% -8.1% 4.5% 6.5% 6.0% 9.7% 21.6% 29.4% 30.8% 26.8% 8.7% Hardware 8.6% 2.3% -39.7% -21.0% -25.9% -12.5% -1.4% -2.8% -6.3% 5.6% 10.2% 10.8% 8.7% Software 49.3% 38.7% 44.6% 19.3% 13.5% 23.8% 14.2% 10.3% 34.1% 40.4% 51.7% 52.9% 46.3% Smart device, IP ------89.4% 58.6% 53.1% 51.4% 50.9% 50.7% 50.7% Other 84.8% 78.6% 70.5% 72.2% 63.3% 65.5% 62.7% 65.3% 71.9% 76.4% 80.3% 83.6% 86.3% Hardware units ('000) 47,640 36,210 28,470 23,730 16,310 12,580 10,150 10,760 21,000 25,500 31,100 31,450 27,775 16,000 Console total 20,530 15,080 9,840 7,430 3,940 3,840 3,360 3,490 15,000 22,500 29,600 30,700 27,400 10,000 Nintendo Switch ------2,740 15,000 22,500 29,600 30,700 27,400 10,000 WiiU - - - 3,450 2,720 3,380 3,250 750 - - - - - 0 Wii 20,530 15,080 9,840 3,980 1,220 460 110 ------GC ------Portable total 27,110 21,130 18,630 16,300 12,370 8,740 6,790 7,270 6,000 3,000 1,500 750 375 6,000 3DS - 3,610 13,530 13,950 12,240 8,740 6,790 7,270 6,000 3,000 1,500 750 375 6,000 NDS 27,110 17,520 5,100 2,350 130 ------GBA ------Software units ('000) 343,400 301,670 199,190 147,020 123,200 98,870 83,210 75,350 94,667 137,680 190,876 198,885 155,451 78,000 Console total 191,810 171,260 102,370 64,030 45,020 36,130 34,690 20,260 58,667 119,680 181,876 194,385 153,201 38,000 Nintendo Switch ------5,460 58,667 119,680 181,876 194,385 153,201 35,000 WiiU - - - 13,420 18,860 24,400 27,360 14,800 - - - - - 3,000 Wii 191,810 171,260 102,370 50,610 26,160 11,730 7,330 ------GC ------Portable total 151,590 130,410 96,820 82,990 78,180 62,740 48,520 55,090 36,000 18,000 9,000 4,500 2,250 40,000 3DS - 9,430 36,000 49,610 67,890 62,740 48,520 55,090 36,000 18,000 9,000 4,500 2,250 40,000 NDS 151,590 120,980 60,820 33,380 10,290 ------GBA ------amiibo units ('000) - - - - - 10,500 53,600 18,400 27,600 30,360 33,396 35,066 36,819 NA Figurine - - - - - 10,500 24,700 9,100 13,650 15,015 16,517 17,342 18,209 NA Card ------28,900 9,300 13,950 15,345 16,880 17,723 18,610 NA

Source: Company data, Credit Suisse estimates

Nintendo (7974) 32 15 September 2017

Figure 70: Cash flow statement (Y million) FY3/14 FY3/15 FY3/16 FY3/17 FY3/18E FY3/19E FY3/20E FY3/21E FY3/22E

Cash flow from operating activities (A) -23,114 60,293 55,190 19,101 121,868 185,958 320,291 361,144 287,965 Net Profit 10,929 72,091 27,715 114,730 106,300 283,972 495,975 550,411 424,438 Depreciation 9,918 9,011 9,139 8,366 8,400 8,400 8,400 8,400 8,400

Cash flow from investing activities (B) -20,084 -105,394 -71,740 69,518 24,646 -15,200 -15,200 -15,200 -15,200 Capex -1,071,026 -736,367 -1,072,852 -680,408 7 0 0 0 0 Others 1,050,942 630,973 1,001,112 749,926 24,639 -15,200 -15,200 -15,200 -15,200 Cash flow from investing activities (B) -127,163 -11,916 -2,996 -14,435 -29,112 -92,287 -161,188 -178,880 -137,938 -12,802 -11,835 -24,929 -14,384 -34,544 -92,287 -161,188 -178,880 -137,938

Free cash flow (A)+(B) -43,198 -45,101 -16,550 88,619 146,514 170,758 305,091 345,944 272,765

Source: Company data, Credit Suisse estimates

Figure 71: Balance sheet (Y million) FY3/14 FY3/15 FY3/16 FY3/17 FY3/18E FY3/19E FY3/20E FY3/21E FY3/22E

Current assets: 1,024,136 1,097,597 1,021,135 1,140,741 1,285,030 1,434,302 1,653,705 1,839,569 1,936,295 Liquidity in hand 795,215 915,293 909,340 946,070 1,063,440 1,141,911 1,285,814 1,452,878 1,587,705 Accounts and notes receivable 28,754 55,794 38,731 106,054 91,100 131,100 175,200 186,300 162,800 Inventories 160,801 76,897 40,433 39,129 83,400 114,200 145,600 153,300 138,700 Other current assets 39,366 49,613 32,631 49,488 47,091 47,091 47,091 47,091 47,091

Fixed assets: 282,274 255,346 275,766 328,235 337,958 347,658 357,358 367,058 376,758 Tangible assets 94,190 91,488 87,752 86,558 96,258 105,958 115,658 125,358 135,058 Intangible assets 12,467 12,430 9,977 12,825 12,800 12,800 12,800 12,800 12,800 Investment and other assets 175,616 151,426 178,037 228,851 228,900 228,900 228,900 228,900 228,900

Total assets 1,306,410 1,352,943 1,296,901 1,468,976 1,622,988 1,781,960 2,011,063 2,206,627 2,313,053 ROA 0.8% 5.3% 2.1% 7.8% 6.5% 15.9% 24.7% 24.9% 18.3%

Current liabilities: 155,652 144,232 98,437 184,109 298,135 364,819 432,734 449,419 417,907 Notes and accounts payable 47,665 58,464 31,857 104,181 180,779 247,464 315,379 332,064 300,552

Fixed liabilities: 32,318 41,155 37,563 33,895 33,900 33,900 33,900 33,900 33,900

Total liabilities 187,971 185,387 136,001 218,005 332,035 398,719 466,634 483,319 451,807

Minority interests 157 110 124 132 130 130 130 130 130

Shareholders' equity: 1,118,438 1,167,554 1,160,900 1,250,971 1,290,954 1,383,241 1,544,429 1,723,308 1,861,246

Total liabilities & shareholder's equity 1,306,409 1,352,941 1,296,901 1,468,976 1,622,988 1,781,960 2,011,063 2,206,627 2,313,053

Source: Company data, Credit Suisse estimates

Nintendo (7974) 33 15 September 2017

Companies Mentioned (Price as of 14-Sep-2017) Activision Blizzard, Inc (ATVI.OQ, $65.17) Alphabet (GOOGL.OQ, $940.13) Apple Inc (AAPL.OQ, $158.28) DeNA (2432.T, ¥2,377) Electronic Arts, Inc (EA.OQ, $119.19) NetEase.com (NTES.OQ, $268.5) Nintendo (7974.T, ¥37,670, OUTPERFORM[V], TP ¥55,000) Sony (6758.T, ¥4,230) Tencent Holdings (0700.HK, HK$337.0) See Figure 52 for other companies mentioned" to Cos Mentioned section.

Disclosure Appendix Analyst Certification Hanako Takahashi and Keiichi Yoneshima each certify, with respect to the companies or securities that the individual analyzes, that (1) the views expressed in this report accurately reflect his or her personal views about all of the subject companies and securities and (2) no part of his or her compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this report.

3-Year Price and Rating History for Nintendo (7974.T)

7974.T Closing Price Target Price Target Price Closing Price 7974.T Date (¥) (¥) Rating 40,000 28-Oct-14 11,100 12,000 N 27-Feb-15 12,780 NR 21-Apr-17 27,005 30,000 N * 30,000 30-Jun-17 37,680 40,000 * Asterisk signifies initiation or assumption of coverage. 20,000

10,000 01- Jan- 2015 01- Jan- 2016 01- Jan- 2017

N EU T RA L N O T RA T ED The analyst(s) responsible for preparing this research report received Compensation that is based upon various factors including Credit Suisse's total revenues, a portion of which are generated by Credit Suisse's investment banking activities As of December 10, 2012 Analysts’ stock rating are defined as follows: Outperform (O) : The stock’s total return is expected to outperform the relevant benchmark* over the next 12 months. Neutral (N) : The stock’s total return is expected to be in line with the relevant benchmark* over the next 12 months. Underperform (U) : The stock’s total return is expected to underperform the relevant benchmark* over the next 12 months. *Relevant benchmark by region: As of 10th December 2012, Japanese ratings are based on a stock’s total return relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractive, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. As of 2nd October 2012, U.S. and Canadian as well as European ratings are based on a stock’s total return relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractive, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. For Latin American and non-Japan Asia stocks, ratings are based on a stock’s total return relative to the average total return of the relevant country or regional benchmark; prior to 2nd October 2012 U.S. and Canadian ratings were based on (1) a stock’s absolute total return potential to its current share price and (2) the relative attractiveness of a stock’s total return potential within an analyst’s coverage universe. For Australian and New Zealand stocks, the expected total return (ETR) calculation includes 12-month rolling dividend yield. An Outperform rating is assigned where an ETR is greater than or equal to 7.5%; Underperform where an ETR less than or equal to 5%. A Neutral may be assigned where the ETR is between -5% and 15%. The overlapping rating range allows analysts to assign a rating that puts ETR in the context of associated risks. Prior to 18 May 2015, ETR ranges for Outperform and Underperform ratings did not overlap with Neutral thresholds between 15% and 7.5%, which was in operation from 7 July 2011. Restricted (R) : In certain circumstances, Credit Suisse policy and/or applicable law and regulations preclude certain types of communications, including an investment recommendation, during the course of Credit Suisse's engagement in an investment banking transaction and in certain other circumstances. Not Rated (NR) : Credit Suisse Equity Research does not have an investment rating or view on the stock or any other securities related to the company at this time. Not Covered (NC) : Credit Suisse Equity Research does not provide ongoing coverage of the company or offer an investment rating or investment view on the equity security of the company or related products. Volatility Indicator [V] : A stock is defined as volatile if the stock price has moved up or down by 20% or more in a month in at least 8 of the past 24 months or the analyst expects significant volatility going forward. Analysts’ sector weightings are distinct from analysts’ stock ratings and are based on the analyst’s expectations for the fundamentals and/or valuation of the sector* relative to the group’s historic fundamentals and/or valuation: Overweight : The analyst’s expectation for the sector’s fundamentals and/or valuation is favorable over the next 12 months. Market Weight : The analyst’s expectation for the sector’s fundamentals and/or valuation is neutral over the next 12 months. Underweight : The analyst’s expectation for the sector’s fundamentals and/or valuation is cautious over the next 12 months. *An analyst’s coverage sector consists of all companies covered by the analyst within the relevant sector. An analyst may cover multiple sectors.

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Target Price and Rating Valuation Methodology and Risks: (12 months) for Nintendo (7974.T) Method: Our ¥55,000 target price is derived from a sum-of-the-parts model: (1) we use a DCF model for the smart device app business, (2) an ex- cash P/E of 18x for the game console business, and (3) cash on hand as of end-FY3/17. Our DCF model's key inputs include ERP of 6.65% and RFR of 0.1%. We also assume a debt/equity ratio of zero, beta of 1.23 (five-year adjusted average) and WACC of 8.28%. We expect Switch sales will significantly beat market expectations and thus forecast strong sales and profit growth. Our OUTPERFORM rating reflects our outlook for total returns over the next 12 months relative to the rest of our sector coverage. Risk: Downside risks to our ¥55,000 target price and OUTPERFORM rating include Switch sales volumes and attach rate coming in lower than we expected, delays in launching new apps, and rapid yen appreciation

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