May 01, 2019 - 3:17pm EST by
2019 2020
Price: 48.00 EPS 0 0
Shares Out. (in M): 763 P/E 0 0
Market Cap (in $M): 36,624 P/FCF 0 0
Net Debt (in $M): 0 EBIT 0 0
TEV (in $M): 0 TEV/EBIT 0 0

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Thesis Summary

Activision Blizzard (ATVI) is a leading video game developer and publisher in North America. Since last October, ATVI’s market cap dropped just over 40% due to a chain of bad press as shown below.




In addition to these news, ATVI’s management announced that the next two years will see lower video game releases as the company undergoes a restructuring program to re-focus on their core franchises. A deep dive into these headlines shows that the market has most likely over-punished the stock. Overall, I believe that Mr. Market presents an opportunity to own a high-quality business with a capable management team and a healthy runway for growth. At this price point, my conservative analysis and base case valuation conclude that this investment opportunity can provide a 30% upside, with little to no downside risk in the long term.

Business Overview


Activision Blizzard is a leading interactive entertainment company with five operating units: Activision Publishing, Blizzard Entertainment, King Digital Entertainment, Major League Gaming (MLG), and Activision Blizzard Studios. The first three units develop, publish, and distribute video games; while the latter two units leverage ATVI’s franchises to engage gamers through esports, film, and television content. As shown in the graph below, ATVI is primarily a videogame company and this report will largely ignore ATVI’s non-video game endeavors.




At a high level, ATVI’s strategy is to leverage its franchises to entertain and engage its audiences through blockbuster AAA video games, esports, film, and TV content. For example, using the Warcraft franchise, ATVI delivered World of Warcraft, Hearthstone, Warcraft (the 2016 film), and to some extent Heroes of the Storm. In the past decade, ATVI has grown both organically and through acquisitions. Each of the three primary divisions has its own specialty in the gaming industry.



Activision is traditionally a developer and publisher of console games; however, nowadays, many of their popular games have also been adapted to PC and mobile. Aside from developing, marketing, and selling internally developed games, Activision often partners with other established developers to release new titles. Activision’s two primary franchises are Call of Duty, a first-person shooter, and Skylanders, a collectible-toy-based action and adventure series for children. Activision has been releasing new titles for these franchises every year since inception. Annual Call of Duty and Skylander games have been released since 2003 and 2011 respectively. In addition to earning the initial game sale, ATVI also monetizes their games through microtransactions, or MTX, and downloadable content, or DLC. These games are distributed through online third-party marketplaces, like the PlayStation Store and Steam, and through traditional retailers, like GameStop.



Blizzard, previously owned by Vivendi Games before being acquired by Activision in 2008, traditionally develops and publishes PC games; however, much like in Activision’s case, many of their games have been adapted to the other two platforms. Blizzard almost exclusively publishes internally developed games from its own franchises: World of Warcraft, StarCraft, Diablo, Hearthstone, Overwatch, and Heroes of the Storm. Unlike Activision, Blizzard tends to release new titles less frequently, opting to maintain their player base through frequent patches and DLCs. Blizzard’s monetization strategy varies from game to game: World of Warcraft utilizes a subscription model, Overwatch and Diablo have the usual one- time purchase fee, while StarCraft, Hearthstone, and Heroes of the Storm use the freemium model. All their PC games are distributed through their own platform called



King, acquired by ATVI in 2016, is a developer and publisher of mobile and Facebook games, which are typically distributed through Facebook, Apple’s App Store, or Google’s Play Store. Their key franchises include The Candy Crush Sagas, Farm Heroes, Pet Rescue, and Bubble Witch. King’s games are free to play and monetized through in-game currency and advertising.

Activision Blizzard’s Economics




ATVI’s 2018 revenues were $7.5bn after growing at a 11% CAGR in the past decade. Video game revenues are inherently volatile due to the hit-or-miss nature of blockbuster releases, and somewhat cyclical due to the releases of new consoles. Even Call of Duty, which has consistently been the annual best-seller in the US since 20102, can experience these sudden ups and downs. ATVI mitigates this volatility by (1) providing alternative monetization models such as microtransactions, subscriptions, and advertising, and

(2) diversifying their portfolio of franchises across genres, platforms, and geographies. Microtransactions allow publishers to monetize successful games years after their release; this is exemplified by Rockstar’s Grand Theft Auto V. As shown below, ATVI’s overall revenue growth is “balanced out” by design.

AVTI’s focus on core franchises allows them to gain a certain level of stickiness to their annual releases. The Entertainment Software Association’s (ESA) 2018 report shows that familiarity with the franchise is a major factor influencing US consumers’ decision to purchase video games.




Like any other software company, ATVI has strong margins. Average gross, operating, and EBT margins were 65%, 24%, and 16% respectively for the past five years, with small fluctuations depending on revenues. Moreover, excluding non-recurring costs and amortization of intangibles, operating margins were 28% on a 5-year average. Since 2009, ATVI’s gross margins increased from 46% to 66% due to the industry shift towards digitally distributed games. However, this gross margin expansion was not passed down to operating margins due to heavy reinvestments in product development, S&M, and G&A.




In theory, videogames are infinitely scalable: you can sell unlimited copies at almost no cost; in reality, however, this scale is limited by their short life cycles. With certain exceptions, AAA game sales tend to last about 2 years before completely losing its popularity. Franchises, on the other hand, can scale better over longer periods of time with sequels, spinoffs, cross platforming, etc. As mentioned previously, Blizzard has been able to leverage its Warcraft franchise for over two decades with a myriad of diverse content.

Video Game Industry Analysis


Recession-Resistant Growth


Looking back, the global video game industry has grown exponentially from $5.1 billion in 2007 to $22 billion in 2018. According to ESA, computer and video game sales in the US remained fairly strong during the 2008 recession as shown below.


Additionally, ESA’s annual survey also showed that consumers recognize that video games provide a higher bang for their buck, beating other forms of entertainment such as video and music streaming services, movies, and DVDs.


Future Core Growth


The two graphs below summarize the size and growth prospects of the video game industry.