Tuesday, May 14, 2024

Down The Rabbit Hole Of Pearl Abyss Iceland's 2023 Consolidated Financial Statements

Last week I published a blog post covering CCP ehf.'s (aka CCP Games) financial statement for 2023. I just glossed over the statement for Pearl Abyss Iceland and it's $18.8 million loss for 2023. I did so because of two paragraphs, one in each financial statement. In CCP ehf.'s board of directors statement:

The Company's revenues in 2023 were USD 73.2 million compared to USD 68.6 million in the previous year. The net profit for the year amounted to USD 5.6 million compared to a net loss of USD 205 thousand in the previous year. New service revenue related to outsourced development work, along with general cost savings, are the main reasons for the change in net results between years. [emphasis mine]

Pearl Abyss Iceland ehf. is the holding company that owns CCP ehf. In greater detail:

Pearl Abyss Iceland ehf. is a holding company established in 2018. In October 2018 the Company bought all issued and outstanding shares in CCP ehf. CCP ehf. designs, develops, markets and operates immersive virtual worlds and games accessed over the internet. The Company is headquartered in Iceland and owns and operates subsidiaries in the United Kingdom, China, and the United States.

I'm not an accountant, but I would think the revenues of the holding company should either equal or exceed the revenues of each of the owned companies. Yet, here is the same paragraph from the Pearl Abyss Iceland filing.

The Group's revenues in 2023 were USD 56.0 millions compaired to USD 56.1 million in the previous year. The net loss for the year amounted to USD 18.8 millions compaired to a net loss of USD 70.1 million in the previous year. The main reason for the loss is inceased investment in projects under development as the Group expenses all development projects. [emphasis mine]

One of the perks of owning your own blog is the freedom to set your own deadlines and pick your own stories. So I decided to go down the rabbit hole of Pearl Abyss Iceland's 2023 Consolidated Financial Statements.

First, I looked at the top of each statement covering gross profit.

Where did the money go?

I found the missing $17 million dollars. CCP's "Other revenue" wasn't counted by Pearl Abyss Iceland. In fact, the total is $30 million over the last two years. So the question became, where did the money come from?

Going to note 4, the amount seems related to providing services. I would wager a lot of people did not expect that category to show up.

CCP's sources of revenue, 2023

The answer came from companies related to Pearl Abyss Iceland. Specifically Angelice Prime Foundation.

The companies owned or controlled by Pearl Abyss Iceland

PAI does not have an ownership stake in the company, but controls enough of its business that both PAI and CCP had to disclose the fact on their financial statements. How much business? According to CCP's financial statement, the company purchased $17,246,907 worth of goods and services in 2023 from CCP and a combined $29.8 million over 2022-2023.

The next question is, what is Angelice Prime Foundation? I could find very little information, but I have a feeling ex-CCP employees are involved. According to PAI's financial filings, Angelice Prime Foundation and its subsidiaries are involved in software development. Concord SSC is a direct reference to EVE, but Angelice Prime? 

Angelice Prime apparently was a system in the Phoenix constellation of Fountain. I use the past term because the system did not survive to see the launch of EVE Online. The only trace left I could find was the below video.

EVE Online's first trailer made with actual gameplay

So the search leads back to the beta (or perhaps even the alpha) and the first game trailer featuring exploding spaceships back in 2002. But as far as I can tell, CCP did not begin doing enough business with Angelice Prime Foundation to need to declare the company in its financial statements until 2022.

Speaking of outside companies, we next come to NetEase. NetEase not only operates the EVE Online server shards operating in the People's Republic of China but developed and publishes EVE: Echoes worldwide as well. 

Highlighting NetEase revenue

The deals with NetEase brought in 12.5% of Pear Abyss Iceland's revenue in 2023. But year-over-year the income fell 20.1%, from $8,792,803 in 2022 down to $7,021,654 in 2023. 

I think the NetEase revenue falling 20.1% yet total revenue only declining by $135,000 is significant when evaluating the performance of EVE Online. For 2023, the line "Revenue from subscriptions and in-game sales" represents the financial performance of EVE on the global Tranquility server. Revenue in that category grew 3.2%. The global version of EVE performed a little better than that as in 2022 the category contained revenue from the virtual reality games CCP shut down in 2022.

Next comes the issue of debt. Specifically of borrowing money. For this subject I will include CCP as well as Pearl Abyss Iceland. In November 2021, CCP's $6.5 million loan from Pearl Abyss was extended by three years. In February 2023 the repayment scheduled was accelerated, with CCP paying its parent company $3.8 million in 2023 and will finish repaying the final $1.95 million in August of this year.

Pearl Abyss Iceland, at the same time, paid off its original loan from Korea Development Bank a year early.

In October 2023, the Group financed USD 50,000,000 from Pearl Abyss Corp. to repay the existing borrowings from banks and other financial institutions in a single loan agreement arranged by The Korea Development Bank. The interest period is 12 months and the interest rate is fixed at 4.6%. 

The loan was originally due in October 2024. By paying off the loan and then taking out a new loan at new terms, they possibly received a better interest rate. At any rate, the next time Pearl Abyss Iceland needs to pay off a loan is in October 2026.

Perhaps out of order, but deferred revenue increased in 2023. Deferred subscription revenue from outstanding subscription time rose by 10.4%. Unused in-game purchases (i.e. items like PLEX) rose by 41.5% in value. Given that in 2021 those values were $2,950,492 and $4,075,423 respectively and one could theorize interest in EVE Online increased in 2023.

Deferred revenue includes money for the Project Awakening crypto-currency

The final topic concerns the planned Web3 game currently code named Project Awakening. In 2023, PAI collected $27.5 million in sales from token warrants, aka crypto currency. Added to 2022's total of $10 million and the Group currently owns $37.5 million in token that sits as deferred revenue. When the $40 million round of venture capital investment is included, outside funding of Project Awakening finished 2023 at $77.5 million.

Pearl Abyss Iceland is working to make a Web3 game based on the EVE intellectual property a reality. While the effort began in 2022, I don't believe the rules under which PAI and CCP is operating are fairly understood. For my own benefit if for no other reason I will copy the relevant portions of the consolidated report below.
3.18 Accounting policy for crypto assets

The Group is developing a blockchain-based network and planning to issue crypto tokens on the network upon completion of the development. The token to be issued on the blockchain network by the Group is a utility token.

I believe this is a definition to give anyone who knows anything about crypto-games, combined with a little accounting.

3.18.1 Sales of token warrant

The Group has sold warrants to purchase utility tokens. Because the Group has the promise to transfer goods and services in the future, the Group intends to recognize revenue when the tokens have been delivered and used.

The warrants cannot be settled net in cash or another financial instrument, or by exchanging financial instruments, and the warrants are purchased and held for the purpose of the receipt or delivery of the token. Because the Group didn't designate the warrants as measured at fair value through profit or less, IFRS 9, Financial Instruments, is not applied to the warrants. The contract liabilities for the sales of token warrants are recognized as the fair value of the consideration received at initial recognition and not evaluated at fair value subsequently.

Basically, this part explains why the token warrants are listed under deferred income.

3.18.2 Employee token incentive plan

The Group granted options to purchase the tokens to the current employees in service as of the grant date. The options shall vest when the employee renders service for the vesting period. When employees exercise the option and pay the exercise price, employees are given tokens, on the other hand, employees in the Chinese office are given a cash bonus equivalent to the fair value of the token at the time of exercise.

The fair value of the cash bonus in the Chinese office is recognized as salaries and other long-term employee benefits liabilities over the vesting period. The measurement of the token option plan, a non-monetary benefit, is not described under IAS 19, Employee Benefits, hence the Group derived the accounting policies using the guidance in IAS 8, Accounting Policies, Changes in Accounting Estimates and Errors.

An expense is described as decreases in assets, or increases in liabilities, that result in decreases in equity, other than those relating to distributions to holders of equity claims. The Group develops an accounting policy that measures the net marginal cost related to employee token options as salaries and other long-term employee benefits liabilities and recognizes the expense over the vesting period of the option.

I've heard of employee stock option plans, but never heard of an employee crypto-currency plan. I guess the dream is to duplicate the tech boom of the 1990s for employees with the next big thing. I just had two thoughts. First, won't PAI and CCP have to show how many employees participated for how much in crypto in future releases? And the second one is more obvious. Will PAI allow employees to play Project Awakening when the game goes live?

3.18.3 Other crypto assets

The Group holds other crypto assets (such as Ethereum and etc.) for various business purposes. The Group does not hold other crypto assets for sale in the normal course of business but holds them for various business purposes. Because the crypto assets held by the Group are identifiable non-monetary assets that have no physical substance and are controlled by the Group, the crypto assets are recognized as other intangible assets in accordance with IAS 38. A cost model is applied after initial recognition and impairment tests are conducted at the end of each reporting period using fair value less costs of disposal.

And finally the rules for all other non-Project Awakening crypto currencies.

My final thought on the report is I feel a lot better about Pearl Abyss Iceland's finances and the future of EVE Online than I did in May 2022. I see evidence of the two expansions a year development model paying dividends. Small dividends perhaps, but still trending in a positive direction. And the efforts to become a leader in Web3/blockchain gaming apparently isn't syphoning money away from EVE. In addition to $40 million in outside investment money raised to develop Project Awakening, PAI and CCP have sold through the end of 2023 $37.5 million in warrant tokens to fund the new currency. Plus, CCP ehf will have paid off its last loan in August 2024 and PAI's next financial deadline is in October 2026. Overall, I liked what I read.

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