Why the Switch Is Poised to Fuel Nintendo's Growth for Years to Come

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Nintendo (NASDAQOTH: NTDOY) reported a (not surprising) stellar fiscal third quarter, given that its Switch game system has been selling at a frantic pace. During the holiday period, sales increased 177% to 483.0 billion yen ($4.27 billion). Strong hardware demand led to even stronger demand for games, which generate higher margins, leading to a jump in operating profit of 261% to 116.5 billion yen ($1.03 billion).

The performance of the Switch has been very impressive, and it's only going to get better. In Nintendo's earnings release, management provided some data that offers important insight into what's driving sales of the new console.

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Compelling games: The best marketing for Switch

The Switch game system's one-two combo of portability and a long list of compelling games has contributed to its popularity. In the earnings presentation, Nintendo illustrated the impact its top games have had on Switch sales with this statement: "In the first year of Nintendo Switch, sell-through has already exceeded 6 million units for three separate game titles, and their sales continue to grow."

Nintendo also provided attach-rate data, which shows the percentage of Switch owners that also bought each of the company's four top-selling games through the first nine months since launch. Management juxtaposed Switch's attach-rate data with data for the original Wii -- Nintendo's all-time best-selling console from over a decade ago.

Wii Sports was the most-owned title for Wii owners with an attach rate close to 90%. But when bundled sales of Wii hardware and Wii Sports are excluded, that attach rate drops to below 20%, meaning less than one out of five Wii buyers chose to purchase Wii Sports separately.

Excluding bundled sales, Switch's four top-selling games have an attach rate ranging from 35% to more than 50%. The range for Wii was less than 20% to about 45% for its top four titles. The higher attach rates for the Switch are a very healthy sign for the system, and they suggest it may have a longer life cycle than the Wii, which sold an impressive 101.6 million units.

What Switch has going for it that Wii didn't

One reason Wii was a big seller was the introduction of motion-enabled controllers, which generated a lot of buzz and consumer interest. Switch has the same technology and adds portability to its features. However, the most important takeaway from the attach-rate data is that games are driving a higher percentage of Switch sales than they did for the Wii.

Wii sales started to fizzle out around 2009, a few years after the console's launch. Wii was a great console, but after a few years on the market, the novelty of its motion technology wore off. Meanwhile, the Switch can outrun the Wii, because the former is building its success on high-quality games, not just novel technology.

The Switch has a catalog that goes much deeper than its top four titles. There are currently more than 300 games available from third-party publishers, which is a lot for just the first year of release. This doesn't include a wave of independently-produced games showing up on Nintendo's eShop, where users can download games directly to their Switch, some of which have been best-sellers.

Plus, Nintendo has a few more big releases planned this year from its exclusive-content library, including a new version of the classic Donkey Kong.

More games coming down the line

Switch was designed to be very developer-friendly, compared to previous Nintendo hardware. This has paid off as third-party game publishers are continuing to ramp up production for the console. As the Switch installed base grows -- now at over 13 million -- Nintendo believes third-party support will only accelerate, and that should fuel profit growth.

Through the first three quarters of fiscal 2018, Nintendo's operating profit grew 495% year over year to 156.5 billion yen ($1.38 billion). This is already higher than what management had forecast for the full fiscal year (which ends in March), when it last updated guidance in Oct. 2017. It now expects operating profit to be 160 billion yen ($1.42 billion) for fiscal 2018, a 33% increase over the previous forecast and still conservative based on where the company currently stands.

As you can imagine, Nintendo's stock price is up over 90% in the past year, but there's no reason to feel like you've missed out. Nintendo's comeback story continues to get better.

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John Ballard owns shares of Nintendo. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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