Snail, Inc. — Q2 2023 Form 10-Q
Reporting period: Three and six months ended June 30, 2023; filed August 14, 2023. Snail develops and publishes games across console, PC and mobile. Its revenue is heavily dependent on the ARK franchise, particularly ARK: Survival Evolved.
Financial performance
| Metric | Q2 2023 | Q2 2022 | First half 2023 | First half 2022 |
|---|---|---|---|---|
| Net revenue | $9.9 million | $15.5 million | $23.4 million | $43.5 million |
| Gross profit | $0.6 million | $3.2 million | $3.2 million | $15.5 million |
| Gross margin | 5.6% | 20.7% | 13.5% | 35.7% |
| Operating income (loss) | $(4.9) million | $(1.6) million | $(8.4) million | $5.5 million |
| Net income (loss) | $(4.1) million | $(1.0) million | $(7.1) million | $4.8 million |
| Net cash from operating activities | Not presented separately | Not presented separately | $(8.9) million | $3.4 million |
- Q2 revenue fell 36.0% year over year; first-half revenue declined 46.3%. Bookings, a non-GAAP measure, were $9.3 million in Q2 and $22.6 million for the first half, down 38.5% and 44.2%, respectively.
- Q2 operating expenses were $5.4 million, including $1.2 million of research and development, up from $0.2 million in Q2 2022. The company attributed the R&D increase mainly to development of ARK 1, Atlas, Last Oasis and Agartha.
- At June 30, cash and cash equivalents were $3.0 million; restricted cash was $1.1 million. Total assets were $60.4 million, current liabilities $48.8 million, and stockholders’ equity $4.3 million.
- Total borrowings in the debt schedule were $11.8 million. The $6.0 million revolving loan matures December 2023 and the $2.9 million short-term note matures January 2024; the balance sheet also reports a $2.8 million current portion of a promissory note. The company reported $0.6 million of interest expense for the first half.
Changes versus prior comparable periods
- Revenue weakness reflected lower ARK sales and in-game purchases, lower average selling prices, fewer sales days on a major platform, and the anticipated release of ARK: Survival Ascended. First-half 2022 also included $8.5 million of one-time contract payments and $2.5 million of deferred contract revenue recognized.
- ARK represented 83.0% of Q2 revenue and 87.1% of first-half revenue. First-half ARK: Survival Evolved Steam and Epic daily active users averaged 258,245, versus 308,769 a year earlier. First-half units sold were 2.7 million, down 9.7%.
- Cost of revenue declined less rapidly than revenue, and gross margin contracted sharply. Lower royalties and license amortization were partly offset by higher internet, server and data-center costs.
- Cash and cash equivalents declined from $12.9 million at December 31, 2022; cash, restricted cash and restricted escrow together fell from $19.2 million to $4.1 million. The company used $8.9 million in operating activities and $6.3 million in financing activities in the first half.
Liquidity, outlook, risks and unusual items
- Going concern: Management stated that net losses, operating cash outflows, near-term debt maturities and uncertainty about refinancing or raising capital create substantial doubt about the company’s ability to continue as a going concern. Management intends to seek an extension of the revolver, repay the short-term note under its terms, and obtain additional financing; none is assured. The company also expected to be out of compliance with a quarterly debt covenant for the quarter ending September 30, 2023 and was working with its lender.
- Outlook: No quantified revenue or earnings guidance is provided. Management’s stated priorities include increasing sales of existing titles and DLC, releasing new content and controlling or reducing expenses. Results are subject to game-release timing, seasonality, platform promotions and player demand.
- Concentration and related parties: The ARK franchise is the principal revenue source. Three customers accounted for approximately 68% of gross receivables at June 30; the company also reported that three customers generated approximately 52% of Q2 revenue. Net related-party receivables were $11.7 million, largely associated with mobile revenue collected by SDE, an affiliate; management expected repayment within a commercially reasonable period. SDE is also a key vendor and related-party license provider.
- Subsequent agreements: On July 26, 2023, Marbis GmbH agreed to become the official server host for ARK and future iterations for seven years and provide funding up to $4.0 million, including $1.0 million already accrued. On July 27, the company received a $1.8 million prepaid royalty under a distribution agreement for ARK: Survival Ascended and ARK II; it will be deferred until release.
- Contingencies: The company disclosed ongoing litigation relating to alleged ARK source-code copying and a commercial lease dispute seeking more than $3 million. It recorded no loss accrual for either matter because potential losses could not be quantified. An affiliate agreed to indemnify the company for lease-related obligations.
- Controls and reporting: Management concluded disclosure controls were ineffective due to material weaknesses involving financial-reporting close controls, income tax and equity accounting, cash-flow disclosures, expense classification and identification of related-party transactions. The company described planned remediation, including additional finance personnel and expanded reviews. It also reclassified server-hosting costs into cost of revenue and disclosed prior-period classification corrections it assessed as immaterial.
- Other notable items: The company repurchased 152,626 shares for approximately $0.3 million in the first half; $1.3 million remained under its $5 million repurchase authorization. Its deferred tax asset realization depends in part on sufficient taxable income from upcoming game releases.
Important facts for investors to verify
- Progress and terms of the revolver extension, short-term note repayment or refinancing, and resolution of the expected September 2023 covenant shortfall.
- Cash runway and the timing and collection of the $11.7 million related-party receivable, as well as any further capital needs.
- ARK player engagement, release timing and commercial performance of new titles and DLC, given the franchise’s high share of revenue.
- Execution and cash impact of the Marbis funding arrangement and the prepaid distribution royalty; confirm amounts received and obligations attached.
- Remediation of the disclosed material weaknesses and any subsequent changes to financial reporting or related-party disclosures.
- Developments in the source-code and lease litigation, including potential exposure and the practical scope of the affiliate indemnity.