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Activision Blizzard (NASDAQ:ATVI) is expected to report earnings for the fourth quarter of 2012 on Thursday, Feb. 7. The video game developer saw a strong performance through the first nine months of the year despite industry headwinds. "Diablo III," which came out in May and sold more than 10 million copies by the end of Q3, helped the company report a 45% increase in product sales last quarter. This increase was against the industry trend that saw video game sales decline by 19% through the three months ending September.

The latest installment of the "Call Of Duty" series, "Call Of Duty: Back Ops II," was well-received with a record number of pre-orders, according to retailer GameStop (NYSE:GME). Activision had revised its estimate for the calendar year earlier banking on continued sales of the game. The title will be critical to the company's performance in the fourth quarter, particularly as the industry as a whole had a disappointing holiday season. Video game sales during the period, which traditionally sees an increase in sales, fell by 22% over the prior year.

Increased Competition

More than half of Activision's revenues are earned through digital online channels and the company has seen solid growth in this field in the last few years. However, digital sales were flat in the third quarter and most of the revenue growth was due to a 42% increase in retail sales. This was helped by the sales of "Diablo III" and the innovative "Skylanders" project, which generated life-to-date revenues of $500 million by the end of the third quarter.

The interesting thing about "Skylanders" is that it does not rely solely on game sales, but also requires gamers to purchase physical models of the franchise's characters that have to be placed on the "The Portal of Power" for the user to access the character. Disney (NYSE:DIS) has also revealed plans to launch a similar franchise, titled "Infinity," this year. Given the immense popularity of Disney's characters from franchises like "The Incredibles," "Monsters. Inc," and "Pirates Of The Caribbean," this title could provide stiff competition to "Skylanders" in the coming years.

Speaking of competition, the "Call of Duty: Black Ops II" title also faces competition from Microsoft's (NASDAQ:MSFT) "Halo 4" video game in the first-person-shooter domain. " Halo 4" was released six years after "Halo 3" and it will be interesting to watch which game comes out on top in the battle between interstellar war and modern espionage.

Misty Show

The popular online multiplayer game "World of Warcraft" is a cash cow for Activision. The company not only earns through product sales, but also charges the players a monthly subscription fee of $12 to $15 to allow them to play online in the vast multiplayer environment. The game was released in 2004 and reached nearly 12 million subscribers in 2010. Since then, however, the number of subscribers has been declining, reaching 9 million in August 2012. The latest edition of the game, "Mists of Pandaria," sold 2.7 million copies in the first week of release and led to an increase in the number of subscribers, ending September with more than 10 million subscribers.

We will keep an eye on the number of subscribers in the earnings report to assess whether the increase was a one-time event or whether Activision can sustain its subscriber base. The company currently earns a quarter of its revenues through online subscriptions. We currently forecast a slight decrease in the number of World of Warcraft subscribers. You can modify the interactive chart below to gauge the effect a change in forecast would have on our price estimate.

Disclosure: No positions.

Source: Activision Earnings - Will Industry Headwinds And Competition Impact Subscriber Growth?