游戏主机第3篇：Nintendo——[Business Breakdowns，第203期]

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All right, Ryan. I am excited to dive into a name that meant a lot to me through my childhood and that I have increasing nostalgia about: Nintendo. It is something that is going to be very familiar to our audience at the consumer level, but I think it is a business with a fascinating history and one that is at a fascinating moment in time. I want to cover it all here, so thanks for joining us.

Maybe you could start with the simplest framing of this business. We know Nintendo’s titles and video games, but how would you describe what this business actually does in the simplest terms possible?

First, I would say thank you for having me on. It is a genuine pleasure. You talk about nostalgia, and it reminds me of a mutual friend, Eric Jorgenson, who coined the phrase “weaponized nostalgia.” I think Nintendo fits that bill pretty well.

If I had to break it down in a very quick-and-dirty sentence, I would frame Nintendo as a business that has, in the last 5 to 7 years, transformed from a cyclical, hit-driven business to what is now fast approaching a secular growth juggernaut, defined by increasingly stable recurring revenue, expanding margins, and declining capital intensity. It has basically done this by getting away from having its earnings depend on the success or failure of each new console.

Instead, it has transitioned to a very Apple-like iterative hardware model. The net effect of all this is that its installed base will continually grow and never reset to 0 with each new system, as it had in the past.

This was basically the Achilles’ heel of the video game console business. As a result, this transformation ensures that its Switch family of devices will continue to benefit not just from the ongoing structural shift to higher-margin digital distribution of its software, which I think you have seen across the entertainment space as a whole, but also from the ability to sell high-margin software and related online services to an ever-growing installed base of active users.

That should give it an overwhelming and durable edge in a very high-return industry where intellectual property is king. Nintendo has the best IP in the video game business by, I would say, several orders of magnitude.

So that is the quick-and-dirty breakdown.

I think the shift in the business model in this industry is just so interesting to me. The core business itself, with IP and video games and what is actually happening for the user, is different, but the monetization and how it is delivered is something that we have talked about in various episodes. Nintendo is sitting at the crosshairs.

Before we spend most of the conversation on the business model, I do want to touch upon the history because it is a Japanese business, which makes it automatically interesting from a historical perspective, and there are some unique dynamics here.

Maybe you could start us off with the earliest origins of Nintendo, bring us up to the launch of its first video game console, and then we can take it from there.

Where to begin? Very simplistically, it is a 130-year-old company. I think September 23, 1889, was when Nintendo was originally incorporated.

The gist of its origin story is that it sold playing cards, ostensibly to the yakuza, which obviously creates a very interesting origin story considering I view Nintendo as the family-friendly entertainment king these days. After starting with cards, it basically embarked on a variety of enterprises over the next century until it eventually found its way into toys, and through that, a clear pathway to video games.

One interesting dynamic—I am sure I am of the original Nintendo generation of kids—is that the actual product Nintendo made that really opened the door and made the rest of the runway possible was, believe it or not, the Duck Hunt light gun. One of the odd segues that brought Nintendo to its current place was its entry into bowling alleys. I cannot remember exactly if it was in the 1960s or 1970s, but they had basically large versions of Duck Hunt for people to play.

I think that was what started the relationship. It was either Mattel or Magnavox that made the initial business decision that opened the door to the company we know and love today.

They first started with arcade games. That is where you see, I believe, Mario was first named Jumpman, as just the generic plumber, along with Donkey Kong. That took arcades all over the United States and elsewhere by storm. That is where the video game god Shigeru Miyamoto first entered into his alliances with the software space.

That brings us up to the early 1980s, with what you can think of as the imminent aftermath of the video game crash of 1983.

It would be fascinating to know about the crash of 1983. I think I am familiar with stock market crashes—the 2008 crash, the 1987 Black Monday—but I am not as familiar with the video game crash. I would like to take a little history lesson here.

Basically, in the late 1970s and early 1980s, Atari had become the undisputed king of video games. Its VCS console, which I think was later renamed the 2600, was crushing all of the rival entries from companies such as Mattel and Magnavox.

Originally, only Atari made games for the VCS. That is where the birth of the industry we know today comes from, because in 1979, some of the disgruntled software developers from Atari left and started Activision, which was essentially the world’s first third-party developer of video games for home consoles.

Activision games were, for a long time, praised widely for their quality. Their success in carving itself off from Atari essentially inspired other companies to get started and jump on the third-party software developer bandwagon.

Fast-forward to 1983. The market had become smothered by a glut of copycat game developers for the Atari VCS. They had atrocious graphics, even for the time, and arguably even worse gameplay. To add insult to injury, by that point even Atari’s games had nosedived in quality severely. It had started to rush out big titles to meet sales projections.

Most famously, Atari created a shockingly dull adaptation of the hit movie E.T. It ended up selling so poorly that Atari, because it did not know what to do with all of the excess copies, buried thousands of the unsold games in a New Mexico landfill.

To sum that all up, you had a scenario where the games and the quality of the entries had just gotten worse and worse. Angry consumers eventually closed their wallets, and a lot of these fly-by-night companies that had come in in the wake of Activision exited the industry as quickly as they had entered it.

By the end of 1983, things had gotten so bad that Atari was sold off by Warner Communications, its parent company. For all intents and purposes, it looked like the video game era was dead—a classic fad, for lack of a better term.

It is a fascinating moment in time to think about the collapse and think that there was not going to continue to be some life in that market. I have seen a great documentary about E.T. and the New Mexico landfill. I think it is one of those MythBusters-type stories that turned out to be true, which was quite impressive.

It is also interesting that Nintendo launched something right at this time. What were they going to do differently from the rest of the market when they first launched in that period?

It is very important to set the stage for where the company stands today, in the United States and around the world.

In the wake of the crash of 1983, the U.S. home-gaming industry—the console industry, which had become quite robust—was basically dead for almost 2 years. It was into that void that Nintendo launched the Nintendo Entertainment System, or NES for short, in 1985. This was essentially a remodeled version of Nintendo’s Famicom, which stands for Family Computer and debuted in Japan, I think, in 1983.

The NES ended up becoming a massive hit, as we all know. I want to circle back to the point that there were 3 factors that I think were critical to pushing video games in general, and Nintendo in particular, back into center stage and essentially single-handedly reviving the entire industry.

The first is that with the NES, you had several features that would later come to be seen as hallmarks of the company and its hardware. It drew people in with unusual hardware. The original NES hardware is hard to find now, but it was initially shipped with a user-controlled robot that could move spinning tops around to affect action in certain games, and then, of course, the light-sensitive gun that could be used to shoot on-screen targets, most famously through Duck Hunt.

While neither of those gimmicky hardware aspects ended up enjoying long-lasting success, they did offer differentiated gameplay experiences that were a big part of attracting that first wave of consumers to the system. In that sense, I think they are important.

The second broad point that made a big difference in terms of adoption is that the NES emphasized ergonomics. The NES was basically the first home console to feature the cross pad, or what we would call now the D-pad, for controlling on-screen action.

The button is shaped like a plus sign. It let players move objects on-screen in various directions simply by rolling their thumbs over it in a way that was ergonomically easy. That freed up the player’s right hand to press buttons on the controller and opened up the gameplay and what you could do on the screen, such as jumping or shooting.

This might seem like a stretch, but if you realize that the previous consoles by Atari and its peers featured a rogues’ gallery of companies trying to create the most uncomfortable, awkward, and just plain hard-to-use controller, it becomes important. With the D-pad, Nintendo established thumb-operated controls, and the D-pad has been a part of every home console and portable device made by all game companies ever since. It was much more comfortable.

Finally, the third bullet point—and I think this is far and away the most important—is that with the NES, given the historical context we just went through, its games were subject to quality control.

If you remember the gold Nintendo Seal of Quality, that really changed the game. Not only was the NES the first time the company had started to apply its gift for creating great gameplay with its own in-house titles—Super Mario, The Legend of Zelda, Metroid, and the like—but it also strictly controlled third-party game developers. It essentially required them to submit titles for evaluation and licensing in order to earn the Nintendo Seal of Quality, the gold starburst logo that was prominently displayed on each game’s packaging.

One last point I would make on the Seal of Approval, or Seal of Quality, is that this was essentially the world’s first App Store, given that Nintendo charged third-party developers a 30% fee for access to its hardware. Obviously, that was a model Apple would go on to leverage to somewhat mind-boggling success a few decades later.

Those are the 3 core differentiators that allowed Nintendo to single-handedly revive the industry and create the industry as we know it today.

Can you get into a little bit more detail in terms of how they controlled third-party games and the quality control that went into those early years, in the 1980s, to keep the quality of titles high as it relates to third-party developers?

This is obviously a key piece of how they single-handedly revived the industry.

When the NES was released in the United States in 1985, Nintendo created what were called lockout chips. In practical terms, only Nintendo could make the cartridges for third-party games. This is important because the lockout chip made creating the glut of low-quality games that had sunk the industry in the United States essentially impossible. Without that chip, unlicensed games simply would not work on Nintendo’s hardware.

Another interesting segue here is that Nintendo was very wise in the way it structured its contracts with third-party software developers in 2 ways.

First, it limited the number of games they could release on the NES to 5 games per year. That had a quality-control dynamic as well. It prevented other developers, such as Activision, from flooding the system with second-rate games, for lack of a better term.

The second point is that, although Nintendo would not have known how important this would become by 1990, all of its third-party software developers that created games for the system essentially could not create a game for another console for 2 years.

When the Sega Genesis came along, that actually ended up becoming a very important component of how, by the early 1990s, Nintendo had essentially achieved 90% market-share dominance. It was similar to the way Microsoft is dominant with Excel, Word, and the rest.

Those 2 things together—the lockout chip and the licensing agreement—all came together to ensure that the Nintendo Seal of Quality actually meant something.

Slowly but surely, people started to come back when they realized not only were the games good, but, maybe this is an important point I did not bring up earlier, by the time the NES came out it was not only 5 years ahead of the competition in terms of graphics, gameplay, and all the incredible software the team created, but it was also far cheaper than the console systems from Atari at the time.

You bring all that together, and you have the beginning of the Nintendo we have today.

When you lay out this idea of the third-party ecosystem really coming to life again, and how it is tapping into the earlier roots of the business, can you put some context around where that stands today? Are you actually seeing movement in that segment of the business or in that strategy—anything that can help bring the story to life?

The quick-and-dirty summary of the broad thesis is that you have the improving digital software mix, which is going to bolster margins; investments around Nintendo’s third-party ecosystem and Switch hardware, which should drive incremental margin; and then, I am sure we will get into this later, better monetization of digital software and other forms of IP, such as movies, theme parks, and IP merchandise licensing.

All of that comes together to create a flywheel effect that will improve brand recognition and customer mind share, while also driving meaningful increases in revenue and profit along the way.

In terms of the eShop as the next App Store-like platform, there are a couple of key things Nintendo has done this time around, very reminiscent of history, that have made all of this possible.

One of the biggest is that, in the past, Nintendo created its own games for its own hardware and really did not spend much attention after 1990 thinking about third-party software developers. Its hardware was built for its games, and they were, for the most part, pretty insular in that way.

As Nintendo has invested billions in state-of-the-art networked online infrastructure, with dedicated servers, the online gameplay this time around will be every bit as good as what you would expect from a typical Sony or Microsoft platform.

Nintendo has also really turned around and spent a lot of time strengthening its relationships with third-party developers and incentivizing them to bring games to the platform. It has done that in several key ways, including establishing a Nintendo development portal. This is important because it helps all types of developers access the tools, resources, and support needed to create great Switch games.

Another key change is that Nintendo has started to support numerous middleware and engines, including the Unity and Unreal game engines. This is important because it makes cross-platform development easier.

Finally, Nintendo has gone out of its way to make its development kits—the kits it sends software developers so they can understand what the hardware will be like when making games for the platform—much more affordable. Do not quote me on this, but I believe it brought the cost down to something like $500 or $1,000.

All of those elements have come together in a way that makes working on or creating games for Nintendo a much more attractive proposition. This is even on top of the fact that Nintendo has the largest active player base and therefore the biggest profit pool to pursue.

Unlike with the original Switch at launch, it makes all the sense in the world for third-party developers and big AAA third-party games to be, if not available day-and-date with the Switch, then available soon after. They really cannot afford not to make games for the Switch, given the way the industry has evolved.

The last thing I would touch on is the third-party App Store ecosystem that Apple has gone on to generate tens of billions in profits from each year by taking a tax on every third-party game sold on the system.

Over the last 5 to 7 years with the original Switch, Nintendo has been hard at work bringing together the secret ingredients of third-party App Store ecosystem success, for lack of a better term.

You have the largest annual active player base in the industry, which has compounded at, I believe, 30% a year since 2017. You have increasing recurring-revenue streams, with Nintendo Switch Online membership being the most notable. Nintendo Switch Online has compounded at 25% a year. You have strong digital distribution—currently approximately 50% of software sales, but moving closer toward 85% at maturity.

By the way, digital software sales have compounded at roughly 50% over this time period as well. You also have digital-only content. That includes expansion packs, and Nintendo Music, which it recently added to strengthen the value proposition of online subscriptions.

Finally, there is strong third-party engagement. I believe there are currently something like 11,000 titles on the Switch ecosystem, and third-party titles have compounded at 40% a year.

The big thing to keep in mind, though, is that as much as the Switch has already been a success with third parties, that success has primarily been in what are called indie games, or single-A and double-A games, which are much less expensive and much less involved.

Part of bringing the power back to the system and developing the networked online infrastructure was to make AAA games—the biggest and best games, such as Call of Duty or Madden—available on the platform. The new hardware allows Nintendo, for the first time in 20-some-odd years, to offer the best third-party AAA games in true fidelity to the way they were intended to be played.

It has been a long time since we have had non-dumbed-down versions of these games. To have true, apples-to-apples equivalent gameplay, I think, is going to drive a big step-change increase—not just continued growth in single-A and double-A third-party games, but, most importantly, in the big tent-pole franchises that are the bread and butter of Sony and Microsoft systems.

That is the quick-and-dirty summary.

You mentioned this generational dynamic, and I know there are major fans, as you mentioned, in the 30- to 50-year-old customer base. Do you have any sense of how that transitions down to the next generation?

I know you laid out some of the things Nintendo is trying, but does that show up in any way that gives you a sense of whether there is actual adoption happening with younger generations?

This is another critical question and something very much worth understanding.

The first thing I would say is that the average age of gamers these days is, I believe, something like 34 or 35. A huge percentage of the modern video game industry is driven by people from 30 to 50 who grew up with these games and continued to play them.

If you look at what Sony and Microsoft have done, for example, all of their focus has been retained on that customer. The reasons are somewhat intuitive and common sense. This is much like the Millennials being the highest-spending cohort buying new homes in America. By far the highest-spending players are those with income who are 30 to 50 years old.

The issue, though, is that while this might make for an interesting short- or medium-term strategic game plan, it is disastrous in the long run. Essentially, what you have seen is that 2 of the 3 big players in console hardware have conceded the kids’ market to Nintendo.

This is based on the nature of the games Nintendo makes. One of the ways Nintendo is zigging where its peers are zagging is that it has invested a considerable amount in making games for younger kids. The Yoshi games are a great example. There was also a Princess Peach game recently.

Going through Nintendo’s catalog, it is very clear that the company is making a focused effort to create the same type of wonderful games and simple, intuitive gameplay that got us hooked in the 1980s. The big picture is always keenly in Nintendo’s mind, so ensuring that the next generation gets handed the baton has always been a major focus for the company.

More concretely, outside of simply focusing development money and R&D on games for younger kids, you also have the flywheel effect from all of Nintendo’s investments in movies, theme parks, IP merchandise, and licensing.

You can go buy a Nintendo LEGO set, for example, and that has had a huge impact. I think something like 170 million people saw The Super Mario Bros. Movie.

To give you one example, there was obviously the Bowser and Peaches song that took kids’ recitals across the country by storm. You really could not get on X or anywhere else without seeing kids singing the song.

I was driving home about a year ago, well after the movie had left theaters, and there was a Catholic grade school right across the street from where we live. They had the entire school outside at night with a giant projection screen watching The Super Mario Bros. Movie.

I think the movies and the way Nintendo is better monetizing its world-class IP, specifically with kids in mind, are having a profound and intended effect that I personally see everywhere. You saw it with Halloween this year. I probably saw 10% to 15% of the kids walking around the neighborhood dressed in some type of Nintendo IP.

You also have new ways in which Nintendo is actively building on this. There was the Nintendo playtest, which was limited to, I think, 10,000 users last month. It was not technically under an NDA, but it was a very under-the-covers type of thing. I believe users who were accepted did have to sign something.

Shots from the playtest leaked, or at least pictures of the game being tested leaked, and pretty quickly we got an idea of what they were testing. For all intents and purposes, it looks to be a Roblox- or Minecraft-killer, MMO-style, live-service game.

Without getting into the details, Roblox has taken the younger kids’ market by storm. Minecraft is also hugely popular in Japan. Not a lot of people fully appreciate that. It is probably the only thing Microsoft has ever done successfully in Japan after a long list of unforced errors and losses in that key market.

This game is essentially tailor-made for not only what Nintendo does best but also, I would say, one of the big competitive threats in the younger-cohort space. I almost jumped out of my chair when I saw the gameplay because I think it will be a wonderful way to draw younger kids in and keep them engaged with the wonderful world of Nintendo, its IP, and its characters from an early age.

We do not know the hard details, but I think that is clearly what they are aiming for, and I think it will serve those goals remarkably well.

Finally, I would add that one of the big differences between the strategic vision of Microsoft and Sony versus Nintendo is that Nintendo is laser-focused on what I would call intergenerational nostalgia.

Nintendo makes games that are intended, for the most part, for all ages, with fun gameplay loops. Unlike Sony and Microsoft, where you get the feeling that you are withdrawn from the world, stuck in someone’s basement playing Call of Duty all day, community and getting out into the world and playing Nintendo games have always been core to who they are.

Nintendo, for example, this Christmas is offering an intergenerational lifeline between parents and grandparents. Much like muscle cars in the 1960s or collecting baseball cards, a parent who is my age very much wants to share the experiences they had growing up playing video games with their kids.

It is a wonderfully nostalgic way to bring families together and for families across generations to relate to each other in a way that I think really shows the shortsightedness of Sony and Microsoft’s approach.

You take all of those things together, and I think Nintendo will continue to acquire customers in the 4- to 12-year-old age group in a way its peers cannot possibly replicate. That is a very important and exciting thing when looking out 10 years and beyond, and it bodes well for the future.

It is fascinating to think about what differentiated Nintendo in terms of quality control, but at the same time, the IP it built, curated, and developed over those years.

Some of the titles you mentioned are what I associate Nintendo with: Mario, Zelda, and some of these other games.

Can you bring us up to date in terms of when the shift happened? You had this model that you described, which was essentially a console sale and then a game sale. These were one-time events. There was nothing recurring in nature beyond the fact that Nintendo would release a new console and new games in the future.

When did you start to see the shift to what you were describing at the top of the episode? Could you talk a little bit more about that and some of the modern-day themes?

I guess we have to fast-forward to around 2015. This was on the cusp of the disastrous follow-up to the massively successful Wii, the Wii U. Nintendo sold 13.5 million units over the life of that console.

There were a variety of issues. People were not sure if it was an iteration of the Wii or an entirely new system. There were marketing issues. Basically, everything that could have gone wrong did go wrong.

I started noticing the shift when I went back and reviewed a lot of the statements that Shigeru Miyamoto had made. He was reflecting on Apple and how Apple’s devices essentially use what is called the iterative hardware model.

In the past, during the pre-Switch era, Nintendo’s near- to medium-term earnings had always depended on the success of its game systems. Investors would, I think rightfully, remain wary because of the cyclicality and inherent unpredictability that are part of any hit-driven business.

What Nintendo did by studying Apple and seeing the brilliance of that model was create a console platform that, for all intents and purposes, could last effectively forever.

In doing so, Nintendo’s most valuable asset—the installed base of console users it built up with each new system—would never need to reset to 0, as it had every 5 to 6 years in the past.

When the Switch launched in 2017, its games looked pretty much the same as those of its immediate predecessor. Nintendo was hinting in various ways that it was moving toward what I would call the Apple model.

For what it is worth, both Sony and Microsoft started making a similar transition around 2014. You had the ability to play games with backward compatibility, and they started to create a software-based ecosystem across their console generations. You could play not just past games, but games released under the new model on the older system.

Not only did all video game console makers and software publishers become structurally more profitable, but the inherent technical obsolescence was reduced. This broad change between 2013 and 2017, when the Switch was released, created a new world where video game consoles, in a sense, would last forever.

Where does that get us? Starting around 2017, although the development began a couple of years earlier, you had a new kind of video game console where old consoles could play games released in the distant future.

You can see proof of this by looking at another gaming device: the smartphone. The iPhone, in particular, has been around for almost 2 decades, but the improvements in its basic design have been incremental rather than revolutionary.

There is a much bigger difference between a 2006 Nokia flip phone and the original 2007 iPhone than there is between a 2007 iPhone and today’s iPhone 16. More recent apps on that phone might take better advantage of the iPhone 16’s improved hardware, higher specifications, and greater capabilities, but even if your iPhone is several generations old, you can still use it to interact with and play newer apps that were released years later.

The magic of the iPhone’s longevity is that today’s models run on essentially the same operating system—in Apple’s case, iOS—as the older versions. There have been continuous updates to iOS, but it has not been replaced wholesale with an entirely different operating system.

I would say there are 2 factors to focus on here. The first is the increasingly modest size of technological advances—in other words, the law of diminishing returns.

If you play a PlayStation 4 game versus a PlayStation 5 game, does the PlayStation 5 game look better? Yes. Does it really matter at this point? Not really—not in the way it did between the original Nintendo Mario games and Mario on the N64, the first 3D version. That was night and day.

That leads to the second point, which is the longevity of the operating systems. It has meant that whether it is Apple, Nintendo, Sony, or Microsoft, these companies have not had to build a new user base from scratch every time they roll out a new piece of hardware.

Those 2 things together have massively reduced their revenue volatility, not only from the hardware itself but also from the countless products and services related to it.

This is what allowed Apple to go from essentially a standing start in 2007 to, I do not know what it is today, 1.5 billion network devices in its installed base. It did that in approximately 10 years.

That laid the groundwork for the App Store, which is arguably one of, if not the, greatest businesses to come into being in the last 20 years by several orders of magnitude.

I think you have started to see that same basic dynamic play out with consoles and video games in general, and with the Switch in particular.

With the Switch and the console itself, can you talk through the actual revenue model?

If I picture an iPhone, I spend a certain amount of money upfront, and then I spend a certain amount of money on various apps. I might have a monthly subscription to an app, and Apple takes a 30% cut.

Can you walk through what that looks like for the customer?

From a customer standpoint, you buy a Switch and then you might buy a couple of games a year for any number of years. With the incoming release of the Switch 2, all of the old games you purchased are going to be playable on the new hardware. That would not have been possible in the past.

Even cooler—and I think this is not talked about nearly enough—with the Switch 2, you have NVIDIA’s DLSS AI built into the hardware.

Practically speaking, when you buy a new Switch 2 and download all the old games you purchased on your original Switch, they are going to be dramatically upgraded. Thanks to NVIDIA’s very impressive, continuously iterated AI features, you are going to have not only a substantial graphical upgrade with your old games on day 1, which I think is frankly incredible, but the frame rates and smoothness of the games will be dramatically upgraded as well.

This time around, not only can you play your old games when you buy the successor to the original Switch, but all those old games are going to be almost like new, as if they had been remastered with better graphics, smoother frame rates, and the like, pretty much on day 1. I think that is quite special.

Do I have to subscribe to the game, or do I actually own the game?

You make a one-time payment for the game. It is not a monthly payment.

The second key change is Nintendo Switch Online. Simplistically, you could look at that as a Netflix of video games.

Microsoft and Sony have very much gone in this direction with their own titles, but there is a huge difference in the models themselves. With Microsoft, you have Game Pass, which is a dramatically more expensive service where you get contemporary, up-to-date games playable by subscription pretty much on day 1 of their release.

Nintendo has done it very differently, and I think very wisely. One element is that Nintendo is the king of video game IP. If you look at the top 100-selling games of all time, you will be astounded by how many of them are essentially Nintendo classics.

Nintendo Switch Online is built around something we talked about earlier: weaponized nostalgia. Nintendo built this software and expensed it through its income statement, in some cases decades ago.

What the consumer gets in lieu of a subscription is not only online play, playing with friends, online multiplayer, and things like that—what you would call the popular ways to play video games today—but also essentially all of the retro consoles and vintage evergreen game classics that Nintendo released on prior systems.

You have a constant release of games. Originally, there were, I do not know, 20 NES games, and then more games were added over time. Nintendo added Super Nintendo games and continued to add more since then. It added the Game Boy Advance and, ironically enough, the Sega Genesis. Most recently, it added the N64.

As time goes on, especially with this next console changeover with the Switch 2, I think you are going to get GameCube and Wii games. You basically get the best of all of Nintendo’s historical classic evergreen consoles and video games for a monthly subscription fee.

You also get unique new games. With Nintendo Switch Online, you get the best of Nintendo’s old games, a continuous stream of new Nintendo-built games, and, I think in the future, some very cool live-service games that will be very good for the business and the model.

You have the classic evergreen franchises, such as the latest Mario and Zelda titles, and you are going to pay for those. It is, for the most part, a one-time purchase.

Then Nintendo also has Nintendo Switch Online, where, for a monthly fee, you can play online with friends and get this entire back catalog of the best that Nintendo has created in the past, plus iterative new Battle Royale games and a ton of other bells and whistles.

Can you bring us to the current date and give us some snapshot of the business through numbers—revenue, titles, or however you think is the best way to frame it? What are you looking at when you look at Nintendo as a business?

That is a great question and can be broken out into various earnings engines.

Obviously, the primary driver of Nintendo’s business is its software sales, particularly its first-party software sales.

When you say software sales, should I think of that as the purchase of a title or an in-game purchase? Bring software to me, because when I think of software, I think of buying an Excel subscription.

You should think of video games. There is also Nintendo Switch Online, in-game monetization, and downloadable content.

Think of in-game monetization as buying a new skin or suit for your character. In the past, Nintendo would release, say, the new Mario or the new Zelda for each system, and that would be it.

Now Nintendo can release its big evergreen franchises and then, perhaps a year or 2 later, add a new downloadable piece of content. That increases the number of levels or extends the durable life of the games and keeps players engaged.

It is not just that players buy the game, beat it, set it down, and move on to something else. Downloadable content provides a reason for fans to come back.

DLC and in-game monetization, instead of being a simple one-time purchase, create recurring revenue and more consistent, durable revenue and profits over time. This has rather profound implications for Nintendo’s business model and long-duration revenue and profits.

It is a modern way to keep the company’s biggest and best titles fresh while continuing to bring cash into Nintendo in a way that was not possible in the past.

How big a piece of the business is that today?

It used to be 50/50 hardware and software. Within the last couple of years, you have had an inflection point that I think points the way to the future, where software has become an increasingly large piece of the pie.

Broadly speaking, think of it as 60/40 today versus 50/50 in the past. In the long run, I think that mix will balance out closer to 80/20.

As that drops to the bottom line, it is important to remember that software is where all of Nintendo’s money is made. Unlike Sony and Microsoft, Nintendo does make a profit on its hardware, much like Apple does.

For many generations, Sony and Microsoft would happily sell their consoles at a loss because they would make it up, and then some, through software—whether that was their own first-party software or the App Store tax on other people’s games.

You mentioned there is a delta in the margins. When you hear software versus hardware, you assume one is much more economically viable than the other, but do you have a sense of what the general margin profile looks like for those groups, understanding that there are subsegments?

Has that shown up in the consolidated numbers? Have you seen this margin expansion for the business?

Yes. I do not know exactly off the top of my head what Nintendo’s operating margin was coming into the Switch era. I believe it was somewhere in the mid-single digits.

This is another element of the business model transformation. In the past, every cycle would bring 3 or 4 years of growing profits, followed by a year or 2 of losses as Nintendo invested in R&D and other areas to create the new hardware. Its best developers would also start to focus on next-generation games.

With the transformation to a more Apple-like iterative model based on a unified software ecosystem, Nintendo should never have losses or a massive drop in profitability as it approaches new generations of hardware.

You start in the mid-single digits around 2017. Today, its operating margins have expanded as all of these various drivers have taken effect: the mix shift from physical to digital software, the rise of online recurring subscription services, and DLC and in-game monetization in various forms.

You put all of these revenue- and margin-expanding factors into the business model as it stands today, and I would be shocked if Nintendo’s operating margins 2 to 3 years from now did not settle somewhere north of 50%.

At a high level, this is a business that has gone from low-single-digit operating profitability to the mid-30s in terms of below the line.

From an investment perspective, whether it is hardware, new titles, or software, they all require some level of investment. It might show up differently in a GAAP accounting report, depending on where it fits.

Has the business’s ability to convert that margin into free cash flow, or simply cash from operations, materially changed over the past few years? Does it show up differently?

Yes. Of all the secular, structural, permanent improvements to its business model, you can really focus on 2 things that are responsible for driving the lion’s share of the improvement in profitability.

The first is the structural shift to digital software sales versus physical. In the past, Nintendo had to create, manufacture, and produce physical games. In order to distribute the game to the widest audience, it had to put it in a Best Buy, Walmart, or Target and give up some margin to that retailer.

That resulted in a gross margin, net of everything, of roughly 45% to 50%. With digital, you can see what has happened across other forms of entertainment IP as physical media has died.

Nintendo started on this journey about 5 years later than everyone else. That transformation from primarily physical game sales to mostly digital is, I think, industry-wide, right around 65% today. Every indicator suggests that this long-running trend is accelerating and that the death of physical media is accelerating along with it.

That is a profitability driver. Nintendo makes quite a bit more with every game sold digitally than it did with a physical game. Including DLC, the gross margin is closer to 80% to 90%, versus 50%.

As the mix of physical to digital sales shifts toward where the rest of the industry already is today, Nintendo will benefit from what I think is a massive, idiosyncratic driver of growing profits. It is moving from roughly 50% digital sales to, in the end, probably 85% of total sales.

One thing that is important to understand is that it really is better for everybody on every side of the network. The software developer that makes the game takes home more, Nintendo makes much more relative to selling a physical game, and, most importantly from a consumer perspective, you do not have to drive to your closest GameStop or Best Buy the night before your favorite game is released and elbow your way in, hoping to get to the counter before everything sells out.

You can buy games digitally ahead of time. The game will download onto your system a week or 2 before release, and then, at midnight when the game comes out, you are free to play it immediately.

Like any structural technological change, you have to think through how it affects the end consumer, demand, and the overall process. The changes that really have legs are the ones where the new paradigm is simply a much better way for all the players involved—the software developers, hardware makers, and consumers.

In this case, I think it is a very clear win. That is why you have seen the adoption of digital games grow so rapidly over the last 10 years, and it continues to do so.

That is obviously a very attractive feature for Nintendo shareholders today. Looking out over the next 5 years, you mentioned Sony and the AAA game model tied to the most advanced hardware.

I imagine that if you do not have the most advanced hardware, you need to rely on something else to bring people in and make the purchase. Mobile has been a growing industry until very recently, so you want to be on either side of the extreme, but it sounds like Nintendo has found a solid spot in the middle.

What makes a consumer buy a Switch versus choosing one of the other consoles? I imagine there are exclusive titles that you will only get on Nintendo. Some of the names we referenced earlier come to mind, but can you get into that a little bit more?

That is a fantastic question. One way to think about it is that, historically, people bought Nintendo’s hardware strictly to play Nintendo’s games.

When you play a Nintendo game, what differentiates it is not the raw graphical horsepower. It is more that the gameplay loops are fun. It is not about the graphics; it is about the gameplay.

These games are much cheaper to develop, and they are just as good as they have always been, if not better. If you look at the software ratings for the Switch generation, the Metacritic score for almost all of them is above 85, which is almost unheard of. I think that speaks directly to the quality of the gameplay.

Typically, that is what has sold Nintendo systems. The game changes with the release of the Switch 2, because Nintendo’s next iteration will have hardware power approximately on par with the latest and greatest from the more graphically intensive hardware of Sony and Microsoft.

That answer will have a very profound effect on Nintendo’s financial statements over the next 5 years.

The original Switch is essentially a 2013-era mobile technology console. One of the unfortunate elements of that is that most of the best AAA games made by third parties—games such as Call of Duty and Madden Football—were too powerful to run on that hardware.

Some of those titles were released on the original Switch, but they were essentially dumbed-down versions of the original games. They sold decently well because the Switch had a radical redesign in which Nintendo restructured its business around a single console that was both a home and portable console.

That had a variety of permanent impacts on the business’s profitability, which is a separate discussion. At the end of the day, though, the Switch 2 is the first Nintendo system since the GameCube in 2000 that will be able to play all of the best third-party AAA games in true fidelity to the way they were intended to be played.

It will not just be some dumbed-down version, if it is available at all, that people buy because they want to play those games on the go rather than in their living room.

With the Switch 2, you will be able to get all of the great Nintendo games that have historically defined Nintendo hardware, plus all of the best day-and-date third-party AAA games.

That should result in a massive step-change increase in the number of AAA third-party games available on the Switch platform going forward—games that were not available in the past.

You can look at Microsoft. For various reasons, I think the writing is on the wall that Xbox hardware is in terminal decline, and I think Microsoft is likely to abandon it completely at some point over the next 2 years.

Sony itself has been struggling to create software for the PS5. The budgets have reached mind-boggling levels of expense. These companies are not only creating video games; they are essentially making each game into a motion-capture movie plus a video game.

The average big AAA tent-pole game for those systems costs around $300 million. Frankly, the installed base of Microsoft, and even Sony now, is not large enough to justify the cost of making these games.

That is why you are seeing Sony and Microsoft go multiplatform with all of their first-party software. They essentially cannot make a profit anymore without opening up their software to all of the platforms.

It might cost Nintendo $50 million to $100 million to make a game, while it costs its peers many times that.

To sum this all up, Nintendo has spent the last handful of years making a multibillion-dollar investment in networked infrastructure and online services. When you take that investment in dedicated servers and marry it to dramatically more powerful hardware that will come online—pun intended—with the release of the Switch 2, you have all the secret ingredients for an explosion of not just first-party profits from software game sales, but also profits from third-party games.

Think of it as step-change growth in AAA game availability, along with all of the online subscriptions and live-service revenue that these third-party games typically generate.

Maybe we can jump into the IP, because I think it is a key piece of this story. So much of it has been framed through the shift in the business model, but you could also look at the business as a collection of major IP franchises and think about how value comes from them.

We are in this unique age of IP monetization with the Barbie movie and so much more. Talk a little bit about how you think about that within the business, whether it is through the idea of Mario or something else that you would point to as an interesting way to think about IP.

Prior to 2015, you really have to lay it at the feet of the original live-action Super Mario Bros. movie in 1993. The fallout from how bad that movie was created a very deep level of PTSD within Nintendo’s culture.

Between 1993 and 2015, Nintendo was almost psychotically averse to allowing anyone to touch any of its IP for fear of not only degrading it but also recreating the painful experience it had gone through with the original movie.

Nintendo began, in a very Nintendo-like slow-and-steady way, to open itself up to the proper monetization of what is indisputably the most valuable IP in the video game industry.

That has taken place over the years in a couple of key ways. The first is its push into movies and television.

Obviously, we have all seen the massive global success of The Super Mario Bros. Movie, which Nintendo made in partnership with Universal and Illumination. For the first time, I think this was about 3 or 4 quarters ago, Miyamoto came out and explicitly stated Nintendo’s larger ambitions.

Essentially, Nintendo was building toward a movie cadence of approximately 1 Nintendo Cinematic Universe film per year. NCU is shorthand for the Nintendo Cinematic Universe, borrowed from the much more well-known MCU, the Marvel Cinematic Universe.

Nintendo has confirmed that the Mario movie was not a one-off. It has since announced that the sequel, Super Mario Brothers 2, comes out in early 2026. It has also announced a new motion cap Zelda movie, and there are many more projects in the works.

The idea is, much as Disney did with Marvel, to work up to a cadence of 1 movie per year that acts as an upfront-return marketing tool to drive more video game console and game sales.

Each movie is obviously more profitable because animation tends to be more profitable. Nintendo’s partnership with Illumination is easily the most capital-efficient, high-return movie-studio partnership in the history of the industry. It is truly incredible how consistently profitable Illumination-driven animated features are.

I think Nintendo has hit a home run there. It is also leaning into Zelda and its partnership with Sony. The person who helped kick-start the Marvel Cinematic Universe will be working with Miyamoto to create the Zelda franchise.

If you look at profits from the movie side of the business—from box-office receipts and the digital window that encompasses the theatrical release window—I think this is a business worth somewhere between $15 billion and $20 billion in and of itself, outside of the core video game business.

Obviously, it is not only a good standalone pillar of profits or an earnings engine for the company, but there are network effects. The more people who see the movie and become familiar with Nintendo’s IP and characters, the more likely they are to purchase its video game hardware and software.

You saw that with Mario titles, which increased roughly 50% in total sales in the aftermath of The Super Mario Bros. Movie.

It is a great business. I think it is probably worth somewhere between a third and half of what you are paying for Nintendo in its entirety today, just in this one segment of its IP entertainment division that did not exist in prior cycles.

If you were to rank the IP within Nintendo, I am thinking about Mario and Zelda. I know Nintendo owns a stake in Pokémon. Do you have any ranking of those, just out of curiosity? Are there any that you think are spring-loaded, ready to be better monetized?

There are probably 10 separate franchises that I think could become billion-dollar-plus global blockbusters, presuming Nintendo takes the same care and devotion to creating the films that it has shown to date with Mario.

There is one thing you know for sure with Nintendo that is not true elsewhere: Yes, the company is properly monetizing this world-class IP in ways it had not been willing to historically, but it takes its devotion to its IP and the permanence of its art deadly seriously.

Ensuring that the quality is at the threshold required for release and for growing the value of the franchise is pretty much everything.

I will give you an example of how hardcore Nintendo is about this. I almost cried as a shareholder, but I think it was in 2018 or 2019 that Nintendo had a tentative deal for 3 seasons to sell the rights to an anime Zelda franchise to Netflix for something like half a billion dollars—something very large.

One of Netflix’s employees leaked the project to, I do not know if it was Variety or another publication, and Nintendo was so angry that it canceled the deal. It essentially said, “You can keep your half a billion. Our trust has been betrayed. We would rather figure something else out.”

When you look at what Disney has done to other storied franchises and managed to take what I think was the greatest IP monetization layup in the history of the world—Star Wars—and proceed to destroy it in inconceivable ways, I think Nintendo is focused on a middle way.

It takes the permanence of its art and the care of the franchises it has built over the last 40 years very seriously. You are not going to see the cash grabs, the injection of contemporary politics into escapism, or any of the other unforced errors you have seen at Disney that have frankly impaired some of the best IP in the world.

You are absolutely not going to see that at Nintendo. In fact, I almost fell out of my chair when Nintendo announced the Legend of Zelda movie. Miyamoto himself took a clear shot at Disney by reminding the press that Nintendo, unlike someone else, would never betray its beloved fans to make money.

That segues into the next question on the management team and the management of the business.

I know there has been frustration from shareholders over time. I can understand if there was some frustration around a leak related to a deal of that size.

What would you point to that leads you to your view of the management team? What are the signposts that would suggest things are moving in a more shareholder-friendly direction?

That is a broad and important question.

The very fact that Nintendo has opened up its IP to movies and theme parks, and the fact that it has opened up its IP at all, shows that there has been a changing of the guard and a grand expansion in the scope and strategic vision of the company in a way that would have been thought impossible before that.

The fact that Nintendo is doing all of these things—and not just doing them, but leaning into them—matters. Nintendo is, by nature, a very conservative company, but what people forget is that when it has a ton of conviction in a new direction, it does not merely lean in; it swings for the fences.

Then there is capital allocation. In the last 10 years, Nintendo has bought back roughly 11% of its equity in various bits and pieces. That has stopped over the last 2 years as the company has moved toward the first major iterative hardware upgrade and transition with the Switch 2.

Once we are past this console changeover, I think you are going to start to see those buybacks reignite, much as you had in the past, but at an even bigger pace.

The reason is that when you have a balance sheet, or war chest, as large as Nintendo’s—whether you are talking about cash diversified by currency or all of its hidden balance-sheet assets—cash will start to pile up so quickly that the company will have no other choice but to return it in droves, mostly through buybacks but also through continuously increasing dividends.

Do not make any mistake: This is not the second coming of Henry Singleton, or even what most Westerners would dream of if they were installed as king of Nintendo and could decide what to do with capital returns.

Given how stable the business is, Nintendo is not going to tender for a third of the shares, which it could do, and then leverage up a few times because the business is dramatically more profitable and stable than it has been in the past.

It could do that very safely, but it is not going to be like that. In terms of the Japanese corporate-governance bogeyman—that management does not care about shareholders and will simply let cash pile up forever—I think there has been a dramatic internal change in management’s philosophy.

Anyone who has been paying attention to the structural changes underway in Japan should also understand that the government is forcing companies, through various means and through the courts, to improve capital allocation and general economic efficiency.

For the first time in history, the Japanese government has essentially forced corporations to unwind many of the insular habits of the past, such as cross-holdings, where companies own pieces of one another so that an external acquirer cannot buy them.

The government has also put various things in place related to buybacks and improving return on equity for the corporate sector.

I understand that the thesis is that you are going to see a shift away from new console cycles really being the business model for Nintendo.

I am curious, though: Historically, when new consoles came to market, what was the stock performance like during those periods? Did it tie very naturally to the release of a new console, and did you see that type of cyclicality correlated with the console cycle?

Yes. If you go back and look at Nintendo’s history, pull up Bloomberg, and look at the stock price approximately 1 year before the launch of a new console, then sell 2 years after it has been released, I think the average net annual gain over that 3-year period is roughly 200%, or thereabouts.

That data point makes a lot of intuitive sense. In the past, you would have 3 or 4 good years, followed by a year or perhaps 2 of losses as Nintendo started to reinvest not only in the next hardware, but also in software.

All of the software developers would turn their focus toward the back half of the console’s life and start working on the next games.

What other risks would you highlight for the business?

The risk is very simply that Nintendo starts to unwind all of the progress it has made since 2015. It could become insular again, guard its IP, and stop making movies and expanding the theme parks. It could stop using its excess cash in value-accretive, shareholder-friendly ways.

The biggest risk by far is that all of the immense transformational progress we have seen over the last 7 or 8 years starts to unwind and moves the business back in the other direction. That would not be good for the company.

The second risk would be the failure of the Switch 2. I think that is very low—basically close to 0—given that no Nintendo generation of hardware has ever sold fewer than 90 million units.

Even in the disastrous Wii U era, between the 3DS and the Wii U, I think Nintendo sold 90 million units. Given that the installed base is not resetting to 0, the company should do very well for shareholders.

That is the type of thing I think about. Ultimately, it is all qualitative and related to the ongoing transformation. I would watch like a hawk for any walking back of the profound changes that have taken place since we got involved.

This has been fascinating. We close these conversations with lessons that you can take away from a business. You have a history spanning more than a century, so what would you point to in terms of the key lessons that stand out from Nintendo as an investor?

I would say the key lesson with Nintendo—and I think this applies broadly to investing intelligently in general—is to look for value-unlocking change.

What we do best at Crossroads is identify situations where the past and the present will look very different, whether that is due to structural changes in the business or changes in philosophy by the C-suite or the management team.

When you have extraordinary value-unlocking change, by definition, the future and the past are going to look very different. That creates a lot of opportunity in and of itself, both long and short.

The only preface I would add is that this is not about predicting or forecasting the future. Rather, it is about recognizing change that is already underway and that the markets do not understand or properly appreciate.

I think that is a critical distinction.

This has been excellent, Ryan. It is a fascinating business from a fun standpoint, but the business model is particularly interesting as well, especially seeing that shift. Thank you for sharing your knowledge.

Thank you for having me. It has been a pleasure. To find more episodes of breakdowns ranging from Costco to visa to madna or to sign up for our weekly summary check out join colossus. that's Jo n c SS us.com