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The Blizzard division of Activision Blizzard (NASDAQ:ATVI) generated $1.2 billion in annual revenue last year without releasing a single new game in 2009. Blizzard still gets some of its revenue from legacy games like the original Starcraft that was released more than a decade ago in 1998. In fact Starcraft managed to crack the list of top 10 PC games as recently as May 2009 according to the top game industry research firm NPD Group. Starcraft has been spotted in the top 20 multiple times since the announcement of Starcraft 2 in 2007.

The beta version of Starcraft 2 featured in the video below was released last month and the game is expected to ship sometime in the first half of 2010.

A majority of Blizzard’s revenue however comes from its hugely popular MMORPG World of Warcraft (WoW) that had 11.5 million subscribers as of last month and has helped Blizzard generate above average operating margins when compared to Activision as a whole. Operating margins for the Blizzard division in 2009 were over 46%.

Given how important World of Warcraft numbers are to Activision, I decided to dig into the subscriber numbers and specifically look at the growth opportunity from China as I have received a couple of questions about this from SINLetter subscribers.

As you can see from the chart below, World of Warcraft experienced exponential growth from its launch in November 2004 through 2008. Only Second Life by San Francisco based Linden Labs, which unlike WoW is free to play, managed to surpass WoW’s subscription numbers. Keen followers of the Massively Multiplayer Online Gaming space noted that the 11.5 million subscribers that Activision Blizzard reported at the end of 2009 were the exact same number of subscribers reported at the end of 2008.

click to enlarge image

WoW 2007 Subscriber Chart

With WoW restored in China as of September 19, 2009 following regulatory hurdles, are subscription numbers going to start growing again or has WoW peaked until the next expansion pack Cataclysm comes along? The bigger question to ask is how many of the 11.5 million subscribers are from China and how much revenue do they generate for Activision Blizzard.

If all 11.5 million subscribers were paying $15/month or $180 annually to play WoW, Blizzard’s revenue from just this one online source would be,

$15 X 12 months X 11.5 million subscribers = $2.07 billion.

Even after averaging the monthly fee down to roughly $14 after taking into account that some subscribers pick the cheaper $13.99 plan by paying for three months at a time or the $12.99 plan by paying for 6 months upfront, the expected revenue drops to,

$14 X 12 months X 11.5 million subscribers = $1.93 billion.

This is significantly higher than the $1.2 billion in revenue the entire Blizzard division reported for 2009. So it stands to reason that a large number of these 11.5 million subscribers are Chinese subscribers that don’t shell out roughly $14/month like their North American and European counterparts do.

ased on what I have read from various sources, it is possible that between 4 to 6 millions subscribers are from China and they pay 6 cents per hour to play the game. Assuming 5.5 million subscribers and adopting a conservative estimate of 10 hours played per month, annual Chinese revenue works out to,

10 hours X $0.06 X 12 months X 5.5 million subscribers = 39.6 million

Chinese revenue is probably even smaller after Activision splits the proceeds with its Chinese partner Netease.com (NASDAQ:NTES). The rest of the non-Chinese 6 million subscribers generate approximately $1 billion in revenue, putting the total WoW subscription revenue at $1.04 billion. Taking the sales of legacy titles like Diablo, Starcraft, etc., into account, we get very close to the $1.2 billion in annual revenue Blizzard reported for 2009.

There is a good chance that given the addictive nature of the game, Chinese players spend more than 10 hours/month playing the game and that the release of expansion packs (some of the old ones have not yet been approved in China) might drive additional revenue. But even if you were to double both the hours and the number of subscribers, revenue would top out at $158.4 million before Netease takes its cut.

The conclusion I came to after digging into the China factor was that the Activision Blizzard investment thesis cannot rest on expectations of growth from China. The strong pipeline of games from Blizzard for 2010 and the potential of another MMORPG are better reasons to get excited about Activision.

Disclosure: Author holds a position in ATVI in his model portfolio.

Source: Blizzard's World of Warcraft: The China Growth Story