Activision Blizzard Q1 2010 Earnings Call Transcript

| About: Activision Blizzard, (ATVI)

Activision Blizzard (NASDAQ:ATVI)

Q1 2010 Earnings Call

May 06, 2010 4:30 pm ET


Michael Morhaime - Chief Executive Officer of Blizzard Entertainment and President Blizzard Entertainment

Thomas Tippl - Chief Operating Officer and Chief Financial Officer

Robert Kotick - Chief Executive Officer, President and Director

Kristin Southey -


Benjamin Schachter - Broadpoint AmTech, Inc.

Brian Pitz - UBS Investment Bank

Douglas Creutz - Cowen and Company, LLC

Edward Williams - BMO Capital Markets U.S.

Justin Post - BofA Merrill Lynch

Jeetil Patel - Deutsche Bank AG

Collis Boyce - Morgan Stanley

Heath Terry - FBR Capital Markets & Co.


Good day, and welcome to the Activision Blizzard's First Quarter CY 2010 Earnings Conference Call. [Operator Instructions] At this time, for opening remarks and introductions, I'd like to turn the call over to today's Senior Vice President of Investor Relation, Ms. Kristin Southey. Please go ahead.

Kristin Southey

Good afternoon, and thank you for joining us today for Activision Blizzard's First Quarter Calendar Year 2010 Conference Call. With me today are Bobby Kotick, Chief Executive Officer of Activision Blizzard; Thomas Tippl, Chief Operating Officer and Chief Financial Officer of Activision Blizzard; and Mike Morhaime, Chief Executive Officer of Blizzard Entertainment.

I would like to remind everyone that we will be making statements that are not historical facts. These forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainty.

As indicated in the slide that is now showing, a number of important factors could cause the company's actual future results and other future circumstances to differ materially from those expressed in any forward-looking statements. Such factors include, without limitation, sales levels, shifts in consumer spending trends, current macroeconomic conditions, the seasonal and cyclical nature of our market, difficulties related to World of Warcraft in China, our ability to predict consumer preferences among computing hardware platforms, decline in prices, product returns, price protection, product delays, retail acceptance of our products, adoption rate and availability of new hardware and related software, competition, litigation and associated costs, rapid changes in technology, industry standards, business models, including online and used games, and consumer preferences, protection of proprietary rights, maintenance of key relationships, including the ability to attract, retain and develop key personnel and developers that can create high quality "hit" titles, counterparty risks, economic, financial and political conditions and policies, foreign exchange and tax rates, identification of acquisition opportunities and potential challenges associated with geographic expansion. These important factors and other factors that potentially could affect the company's financial results are described in the company's annual report on Form 10-K, for the period ended December 31, 2009.

The company may change its intentions, belief or expectations, at any time and without notice, based upon any changes in such factors, in the company's assumptions or otherwise. The company undertakes no obligation to release publicly any revisions to any forward-looking statements to reflect events or circumstances after today, May 6, 2010, or to reflect the occurrence of unanticipated events.

I'd also like to note that certain numbers we will be presenting today will be made on a non-GAAP basis, excluding the impact of the changes in deferred net revenues and related costs of sales, expenses related to equity-based compensation costs, the operating results of products and operations from the historical Vivendi Games businesses that the company has exited or substantially wind down, cost related to the business combination between Activision and Vivendi Games, the amortization of intangibles and the impairment of intangible assets and the associated tax benefits. Please refer to our earnings release for a full GAAP to non-GAAP reconciliation. Please refer to our earning release, which is posted on our website at for reconciliations and further explanations.

Also given that we are in litigation related to Infinity Ward's past and present employees, we will be limited in what we can say with regards to the human resources issue.

Finally, there's also a PowerPoint overview, which you can access with the webcast and which will be posted to the website following the call.

And now, I would like to introduce our CEO, Bobby Kotick.

Robert Kotick

Thank you, Kristin. We once again significantly outperformed both our quarterly revenue and EPS expectations, and we've raised our EPS outlook for the year. We continue to accomplish industry-leading financial performance as a result of the over 7,200 exceptionally talented people at Activision Blizzard whose dedication and commitment enable our consistent performance, growth and margin expansion.

We begun the fiscal year with great momentum in both Blizzard Entertainment and Activision have extraordinary product year. As always, we'll provide detailed reviews of the quarter and our updated expectations for the balance of the year later in the call.

I want to focus on Activision's strategy for the Call of Duty brand, and our commitment to maintaining and supporting the best development talent in the industry, including the addition of Bungie to our team. I want to start by affirming four points, each of which I'll discuss in more detail.

First, we're focused on growing our Call of Duty franchise, broadening its reach, using its lead technical innovation in our industry and providing greater entertainment value than ever before to all of our audiences. We have long-term well-fostered plans in place, and we are fully resourced to continue to lead the industry with this important franchise. Obviously, studios like Infinity Ward remain an important part of this process. And we continue to invest in its growth and support the talented developers there who are working hard on the next title. Next, we expect to launch a groundbreaking Call of Duty retail title in 2011, in addition to our expanded digital content strategy for the brand. And finally, we couldn't be more excited about our new 10-year alliance with Bungie, which is one of our next big things.

Over the last 20 years, one of our key goals has been to broaden the audiences for our franchises while selectively adding new franchises with the potential to be billion-dollar properties. Our actions over the past few months demonstrate our commitment to this objective.

Call of Duty, as an overarching franchise, is perhaps the best example of how to focus on the taste and interest of an audience. In this case, an audience that numbers in the many tens of millions of players and use audience insight to shape future product plans. There's nothing accidental about the continued success we are having with the Call of Duty brand.

The driving factor of Call of Duty success is our ability to consistently execute a three-pronged strategy to elevate the franchise to greater levels of audience satisfaction through superb execution with our retail partners, delivery of innovative gameplay through online tools and distribution capabilities and by driving greater interest in the franchise in new geographies. Through our multi-platform, multi-developer approach, we continue to build an enormous player base.

While our direct-to-consumer Digital business is growing, our continued success will come only with the tremendous support of our fantastic retail partners. Last year, we successfully mobilized our logistics, supply chain and sales teams to partner with great retailers around the world, and leverage social media and great quality advertising to create the largest retail video game launch in history. We have every intention of doing this again this year with Call of Duty: Black Ops, driven by our company-wide focus on driving impact, interest and audience satisfaction.

We continue to complement our retail strategies with value-added online gameplay and digital content offerings. Life to date, on the Call of Duty franchise, we have digitally delivered almost 17 million map packs, which doesn't include the PS3 Modern Warfare 2 downloadable content that just launched. To date, our audiences have played a staggering 1.75 billion hours of online multi-player Call of Duty games on Xbox LIVE alone. To continue to provide gamers with the digital content they increasingly demand, we have dedicated multiple development teams to focus exclusively on this online opportunity.

Call of Duty is unique in the world of entertainment. As we like to say, there's a soldier in all of us and both its solitary experience and social experience of the various Call of Duty games satisfies that universal fantasy in an incredibly appealing, engaging way. Today, we believe there is no comparable entertainment platform.

And as we execute against their strategies, we have the potential to drive the breadth of audience, increase the value-added services we can provide our players and grow the returns to shareholders on the capital that we invest. It's our goal to continue to create higher investment returns compared to our competitors, as well as other entertainment companies, as we have done over the last 20 years. As a preview into this exciting future, expect additional exciting content for Modern Warfare 2 and Call of Duty: Black Ops that will surprise our millions of players.

The popular global fantasy of being a soldier is allowing us to enter new geographies, leveraging expertise-only companies, like Blizzard has, in markets like China and Korea. We have dedicated teams in these new markets, creating content for the audiences that to-date have only been satisfied by Blizzard games. Soon, we'll announce our plans for both China and Korea.

Making Call of Duty games today is managed by more than 325 incredibly talented employees spanning three studios: Treyarch, Infinity Ward and Sledgehammer. These studios are among the best in the world. And a position that is among the most coveted in their industry is the opportunity to work at any one of these studios.

Since we assumed some change and dislocation at Infinity Ward, I wanted to take a moment and share thoughts on the studio and its future. The team in Infinity Ward today is comprised of some of the most talented people in the video game industry. They're an incredibly well-respected group who are motivated and, obviously, extraordinarily capable.

Since we terminated the two executives at Infinity Ward, approximately 35 others have resigned and it is likely that few more people will leave as well. Many of these people have been recruited by other studios because of how talented they are. We are obviously disappointed about this, and we wish we could have convinced some of these incredibly talented people to stay.

The decision, though, to terminate the two Infinity Ward executives was not done lightly. And it was not done to deprive them of their bonuses nor was it done without a great deal of deliberation about the consequences. The background leading up to our decision to separate the two former Infinity Ward executives for breach of contract and breach of fiduciary duty is outlined in our cross complaint that we filed in April, which I'm sure many of you have read. Against this background, we felt we had no choice but to terminate the two Infinity Ward executives. We did this to protect the company's assets and the interest of our shareholders.

I currently consider the two of them friends and their conduct was a compromise of our friendship, which is equally disappointing. Once we began to understand what had occurred, there was no gray area. There was nothing that would have allowed us to retain their services, as talented as they might have been.

This is an example of our commitment to pursuing the difficult right rather than the easier wrong. Our actions were firmly rooted in our long-standing values of integrity, and an expectation that our employees, who signed and acknowledged our code of conduct, will behave with the highest ethical standards.

We have a great place and a great team in place at Infinity Ward, which continues to work on downloadable content and the studio's next unannounced project. We continue to support the culture of excellence that has defined Infinity Ward, and we're already strengthening the studio with additional talent and financial resources.

You'll hear more about our exciting plans for the Call of Duty franchise and the many studios and resources now focused on continuing to create incredible entertainment based on this franchise later in the call. Besides the frustrations with the former Infinity Ward executives, we remain "the" top destination for development talent in the video game industry.

Our recent groundbreaking alliance with Bungie is one example of the commitment we have to working successfully with our industry's most talented teams. Last week, we announced that Activision and Bungie entered into an exclusive 10-year alliance to develop and progress Bungie's next blockbuster after Halo. This landmark alliance will deliver to consumers an entirely new intellectual property, already under development and what we believe is unlike anything audiences have ever seen before.

We expect they will be accretive to our operating margins and incredibly compelling for audiences. Bungie will have almost 200 people working on this project. And they're excited to have their products available on multiple platforms in many countries around the world, which they really haven't been able to do before our alliance with them. Bungie titles have generated more than $1.5 billion in revenues, only on the Xbox, so reaching these new larger audiences will be both creatively satisfying and financially rewarding for Bungie and Activision Blizzard shareholders.

Bungie is a great complement to our already deep bench of the world's leading development talent, including the recent additions to the Activision family, like Sledgehammer and Bizarre Creations. Combined with the talent at Blizzard Entertainment, we believe we have the strongest creative teams anywhere in the video game industry. And we continue to be the first choice for developing talent.

As I enter my 20th year at the helm of Activision, I've never been more enthusiastic about our prospects, both as an industry and as the industry leader. The people at Activision Blizzard are among the most supremely talented, capable people in any industry. The work ethic here is unmatched, and the products we consistently produced are among our industry's finest.

Recently, we had some changes at the company. And I wanted to make a point that recognizing Mike Griffith's appointment to Vice Chairman of Activision Blizzard. Under Mike's leadership Activision tripled its revenues, added $2 billion franchises and on behalf of all the shareholders, we're very grateful for Mike, both his past contributions and excited that he'll continue on as a trusted advisor for the company.

I'm also pleased to announce that Thomas Tippl has been appointed to the newly created position of Chief Operating Officer. For the past four years, Thomas has been our Chief Financial Officer. And in the past year, he became our Chief Corporate Officer. Thomas has done an incredible job driving industry-leading operating margin to shareholder value through his financial discipline and strategic leadership. Our shareholders will continue to greatly benefit from Thomas' talent.

Lastly, I want to thank Mike Morhaime, Paul Sams, Rob Pardo, Frank Pearce and Neil Hubbard and the extraordinary folks at Blizzard. StarCraft and are massive undertakings. The time, dedication and commitment Blizzard has invested in bringing something truly extraordinary to audiences is almost impossible to explain in words.

On July 27, gamers will experience something unlike anything they have ever seen or played before with StarCraft II. And once again, we expect Blizzard Entertainment will transform gaming. Thank you, everyone at Blizzard.

Now I'd like to turn the call over to our new Chief Operating Officer, Thomas Tippl, who will provide a review of Activision Blizzard's financial results for the quarter and an update on the Activision Publishing business.

Thomas Tippl

Thank you, Bobby. Today, I'll begin with a recap of our March quarter result and provide our outlook for the June quarter and calendar 2010. And then I will review the Activision Publishing business before heading over to Mike, who will cover the Blizzard business.

For your reference, in our press release, our set of schedules which provide non-GAAP measures by business segment, and these will be the numbers that I will refer to unless otherwise noted. Also please refer to our earnings release for a GAAP to non-GAAP reconciliation.

For the quarter, GAAP net revenues were $1.3 billion and GAAP earnings per share were $0.30. On a non-GAAP basis, net revenues for the quarter were $714 million and non-GAAP earnings per share were $0.09. Earnings per share were above the prior year and ahead of the outlook we provided in February.

The March quarter was driven by the continued performance of Blizzard Entertainment's World of Warcarft and Activision's Call of Duty. Beyond strength in catalog sales for Call of Duty in retail, we also benefited from the launch of the Call of Duty: Modern Warfare 2 map pack, which was previously expected to launch in the June quarter. Additionally, certain operating expenses previously planned for the March quarter will now be incurred in the June quarter.

With respect to the P&L line items in the March quarter, GAAP product costs including cost of sales of MMOGs were 30% of net revenues. GAAP operating expenses including royalties were 31% of revenues, and our GAAP tax rate was 25%. In the March quarter, non-GAAP product costs including cost of sales of MMOGs were 36% of net revenues, higher than our outlook due to sales mix. Non-GAAP operating expenses came in at 41%. This is below our outlook due to the timing of sales and marketing expenses for both Activision and Blizzard, which will now be incurred in Q2. Our effective non-GAAP tax rate was 30%.

Now turning to the balance sheet. On March 31, we had no debt and approximately $3.4 billion in cash and investments, an increase of approximately $300 million over the prior year despite returning almost $1 billion to shareholders through our buyback programs over the prior 12 months.

Our strong financial position is a major competitive advantage, which supports us the ability to allocate capital across a number of strategic initiatives. We have purchased approximately 8.5 million shares under the new $1 billion share repurchase authorization, at an average price of $10.84. And on April 2, we paid out our first cash dividend of $0.15 per share.

Additionally, we can allocate capital to our all operating investments within our franchises and in our platforms. We can also continue to invest into new and exciting opportunities such as the 10-year alliance with Bungie.

And although we haven't announced the specific financials for the deal, I will say that there was no upfront payment provided but that Activision will be funding the development expenses, which we will approach in the same manner at any of our other projects that the vast majority of expenses are capitalized. We expect that as of the first release, the deal will be accretive to Activision's operating margins every year of the alliance.

In today's increasingly competitive environment, the ability to structure a deal, which is accretive to our already industry-leading operating margins with a proven team, is a unique benefit available only to companies with a leading-industry position in worldwide retail and online publishing and a strong financial profile such as our own.

Now let me turn to a brief review of our balance sheet as of March 31. The accounts receivable balance was $134 million, a decrease of $47 million versus prior year. We are successful and navigated the weak macro economic environment over the last two holiday seasons without incurring any significant credit issues. Inventories were $194 million, down $36 million versus the prior year, due mainly to a reduction in Guitar Hero inventory. Our quarter-end position represents our lowest inventory level since the merger in July of 2008.

Capitalized software development costs were $221 million as compared to $251 million a year ago. Of the $221 million, approximately $34 million is related to deferrals of online-enabled games. Capitalized intellectual property costs were $69 million. Excluding deferrals, capitalized intellectual property costs were $62 million, $32 million above the year ago, due in part to the large number of licensed properties scheduled for release in the next 12 months.

In summary, our March quarter was strong and we continue to be in excellent position to capitalize on investment opportunities for a long-term growth.

Before turning to our financial outlook, I would like to highlight a few items. Our outlook is subject to significant risks and uncertainties, including those mentioned at the beginning of this call, and the risks highlighted in the company's annual report on Form 10-K for the period ended December 31, 2009. As a result of these and other factors, actual results may deviate materially from the outlook presented today.

So now onto the company's outlook. As I previewed on our last call, we are focusing on a few key building blocks to drive earnings growth and operating margin expansion in 2010. I want to take a minute to review the building blocks and our progress to-date.

First, we expect significant growth in our online businesses. The majority of which will come from Blizzard. In the first quarter, we had better-than-expected performance from two of our largest online components, Blizzard Entertainment's World of Warcraft and Activision's Call of Duty: Modern Warfare 2 map pack on the Xbox. And driving growth later in the year are the upcoming Blizzard launches: StarCraft II, and Cataclysm and Activision's Blur, which will also offer exciting downloadable content.

Second, Activision Publishing is expected to release a strong product line of innovative titles. To date, all of our announced titles for the year are looking good. And in the second quarter, we have an exciting lineup with Shrek, Transformers and our two new intellectual properties, Blur and Singularity.

Third, we expect to increase the profitability of our Music business and we're on track to hit objective as well. And finally, we will continue our overall productivity improvement efforts in order to expand operating margins while investing into our product pipeline.

As you know, we announced the realignment in the first quarter, which is expected to generate run rate savings of $30 million to $40 million for 2011. So in the first quarter, we had executed against our stated goals for margin and earnings growth and are already on track to exceed our original outlook for the year.

As you know, we entered 2010 with a reasonably conservative approach, due in part to the uncertain macroeconomic and retail environment and consumer demand in some of the segments in which we participate. Today, we feel this conservative approach is still warranted, especially given the recent declines in European currencies.

For calendar 2010, we still expect GAAP net revenues of $4.2 billion and non-GAAP net revenues of $4.4 billion. For calendar 2010, we now expect GAAP EPS of $0.49 and non-GAAP EPS of $0.72. This is $0.02 higher than the outlook we provided at the beginning of the year.

In the March quarter, we outperformed our non-GAAP EPS outlook by $0.07, and we are passing on $0.02 to the full year. The remaining $0.05 can be broken down as follows. About $0.02 is due to the favorable timing I mentioned earlier between the March and June quarter for the map packs and the timing of expenses. The remainder is largely a result of lowering our assumptions for our large slate of licensed products planned for later this year. Licensed properties continue to underperform in this market and as such, one of the high degree of conservatism than the rest of our business. In addition, there's some impact due to the significantly weaker outlook for the pound and the euro.

For the calendar year, we expect GAAP product costs, including MMOGs, of approximately 30% of net revenues, and operating expenses, including royalties, of about 50%. We project the GAAP effective tax rate of about 28% and the diluted share count of about 1.27 billion. On a non-GAAP basis, we expect product costs including MMOGs of 31%. Gross manufacturing margins are expected to expand meaningfully year-over-year due mainly to Blizzard's high margin slate. We expect non-GAAP operating expenses, including royalties of 40% of net revenues. This is higher than a year ago due to our larger publishing slate, which includes a number of new intellectual properties. Also, Blizzard is increasing its investment in product development and customer service to drive long-term growth.

For the calendar year, we expect a non-GAAP operating margin of about 29%. We expect to achieve our margin expansion target by focusing on the core consumer and retail, combined with an increase in our higher-margin Online businesses. We expect our effective non-GAAP tax rate to be about 30%, which can be used for the remaining quarters and expect a diluted share count of about 1.27 billion.

Now moving to the June quarter. As I mentioned earlier, we expect to release four titles. These releases, in addition to catalog sales, are expected to generate GAAP net revenues of approximately $925 million, and GAAP earnings per share of $0.11. We expect GAAP product costs, including costs of sales of MMOGs, of 29% and operating expenses, including royalties, of about 49% of net revenues. We project the tax rate of 28% and an share count of 1.28 billion. For the June quarter, we expect non-GAAP net revenues of $700 million and non-GAAP earnings per share of $0.04. Revenues and earnings for the quarter are expected to be down versus the prior year due to a smaller release slate, lower music sales and a higher tax rate.

Also last year, our all-new IP PROTOTYPE exceeded our expectations and took the number one spot in June. PROTOTYPE was very profitable in the quarter as most of the costs had already been expensed premerger. We hope to have the same success with Blur and Singularity this quarter but, as you know, we approached new IP conservatively.

For the quarter, we expect non-GAAP product costs, including cost of sales of MMOGs, of 32%. And non-GAAP operating expenses, including royalties, of 57% of net revenues. And a diluted share count of $1.28 billion.

In summary, we believe our combined company strength in the Retail and Online businesses, our continued cost-containment efforts and our significant financial strength, position us to drive another year of shareholder value creation and record non-GAAP operating margins.

So now let me move on to the discussion of Activision Publishing. Today, I'll focus my comments on three areas. First, I will recap our outlook for hardware, software and digital content. Second, I will highlight our core strategies and execution year-to-date. And finally, I will cover the key drivers for the remainder of 2010.

So let's start with a review of hardware and software. Over the first quarter, hardware and software performance in the U.S. and Europe was largely in line with our expectations. Importantly, software sales for the PS3, Xbox 360 and Wii consoles were collectively up single digits. On March 31, the installed base of hardware North America and Europe for current gen. systems, including handheld, was 227 million units, an increase of 34% over the prior year, providing a strong foundation for the industry. Overall, our 2010 hardware installed base forecast remains unchanged and we expect to end the year with a massive installed base of 265 million units of consoles and handhelds.

We're also maintaining our full year outlook for software sales. We expect that North American and European PS3, 360 and Wii software sales will collectively be up low- to mid-single digits and that handheld and PS2 software sales will be down. We also expect PC software sales will be up double digits this year, driven by Blizzard Entertainment's upcoming releases. This is expected to be the first year PC sales has been up in almost a decade. In addition, we expect that online sales will be up double digits. So in total, we expect that retail and online sales overall will be up in the 5% to 8% range.

We have seen, with our own Call of Duty franchise, that downloadable content can add incremental revenue than the rival AAA stand-alone company launches and can do so with significantly lower risks. In addition to revenues, digital content allows us to build direct relationships with consumers to better understand their preferences, so that we can provide them with compelling entertainment experiences. As the social nature of online play continues to draw consumers to gaming, who previously may not have played games, we believe the opportunities to expand our franchises and create value for digital content have never been greater.

We expect the retail environment to continue to favor large-proven properties and for retailers to elect to hold AAA launch pricing. In this environment, franchise equity is more important than ever and Activision stands to benefit. It's not surprising that Call of Duty remains the number one third-party publisher franchise this past quarter.

Our continued success reflects our focus on broadening our franchises as it's underpinned by three core strategies. First, our laser focus on growing our top franchises with our top customers and in our top geographies. Second, selectively expanding our portfolio with content that offers innovative entertainment experiences and robust opportunity in retail and online. And third, strengthening our development capabilities in order to deliver content beyond the retail SKU.

During the quarter, we again made progress in each of these areas. First, we continued to generate strong support for the Call of Duty franchise in the quarter from our top customers and our top geographies as demonstrated by our significant over performance in the quarter. Additionally, we just revealed our latest title in the Call of Duty franchise, Black Ops, which we will support with a major marketing campaign later this year. Our commitment to innovation and superior execution at the point of sales makes Activision one of the best partners for retailers worldwide.

In addition to retail, we continue to expand the strong position of Call of Duty with the release of our first DLC pack, Call of Duty: Modern Warfare 2 Stimulus Package. The Stimulus Package exceeded prior DLC sales records on the Xbox LIVE with more than 1 million gamers downloading the new map pack, in the first 24 hours alone. And as Bobby mentioned, Modern Warfare 2 players have invested nearly 2 billion hours of gameplay on Xbox LIVE, since the title's released in November. These types of metrics illustrates the massive amount of online gameplay that now occur on top of the initial game sales.

We recognize this trend early on and established an accretive business model with Call of Duty that has allowed us to expand the brand and grow our online audience. While not every one of our franchises lent itself to this model, we are focusing our time and resources disproportionately on those that allow us to offer consumers the downloadable experiences they want in a frequent and near-persistent manner.

Today, there are more core gamers than ever before, playing more hours than ever before. Delivering new online content requires additional development resources to create a game design that support consistent character development with skill progression and the back-end infrastructure that tracks this pack and can offer enhanced services, such as social network integration.

Our consoles, in addition to Call of Duty, Halo, is the next best example of high engagement online play. This is one of the reasons we are so excited about our recently announced 10-year alliance with the talented team at Bungie. This alliance further strengthens our development resources and allows us to work with one of the most highly acclaimed studios and the business.

For the first time, millions of players across the world who have access to Bungie's unique and inspiring games on the platform and device of their choice. Bungie now will be able to deliver new and exciting content to their fans, in a broader more seamless and more persistent way than they have been able to experience to date.

Profitable growth in our industry today is coming from games that offer immersive and sticky online experiences, and we expect this trend to continue in the future. People was asked what's next for Activision and our alliance with Bungee certainly gives you a sense of the type of breakthrough opportunities we are working on.

So in summary, we remain focused on the largest market opportunities, and believe that our strategic initiatives would enable us to deliver our long-term financial goals.

Now I would like to turn to our release schedule for the balance of the year, starting with the June quarter. This quarter, we will release Shrek Forever After: The Game, which will launch in conjunction with DreamWorks expected blockbuster animated film. We're also releasing Transformers: War For Cybertron on the PS3 and Xbox 360 and Transformers: Cybertron Adventures on the Wii, which was developed specifically for the platform.

Transformers looks great and is coming to market with terrific buzz from its fan base, with over 5 million trailer views to date. On the new acting side [ph](43:49) we are bringing to market two anticipated titles, Bizarre Creations' Blur and Singularity from Raven Software.

Coming first will be Blur, for which we'll launch an Open Beta in April to outstanding from fans. Blur has taken the best of the mass market, multiplayer agent and aggressively merged it with the high-definition and graphically immersive features of the industries best high-end simulation racing game. The result is a heart-pumping, electrified racing game unlike any other. And as such, Blur has already been dubbed by the press as modern copier [ph](44:21) because it is bringing the intensity, quality and online multiplayer experience of Call of Duty to the racing genre. But Blur is actually taking online innovation even further. The game offers unique customization and online content integration features, including a groundbreaking social network interface that is integrated throughout the single and multiplayer mode. We recently revealed Blur's engagement integration and look forward to unveiling the additional social networking and community game-like features, which will allow gamers to stay connected at all times.

As for Singularity, Raven Software's new first person action title is set to hit store shelf in the last week of June. The game takes players on a harrowing sci-fi experience where time has been fractured, threatening the world as we know it. The press reception for Singularity has been enthusiastic from the start and we look forward to its release.

Now I would like to discuss our planned releases for the back half of the year, starting with the Guitar Hero franchise. As we mentioned on our last call, we expect the music category will continue to compress in 2010 as we have moved from the sell-through of higher-priced peripherals and realizing improved economics on the half of advantage [ph](45:30) of software sales.

Guitar Hero remains the leader in the category, with more than $44 million games sold as of to date. This fall, we expect to launch Guitar Hero 6 and soon after we expect to launch the next DJ Hero. This year, we've added more great original music, new and innovative gameplay modes and a significantly enhanced social gameplay experience. We expect to follow each release with a full-line up of exciting downloadable content.

Beyond music, we expect to release all new additions to long standing and highly successful franchise properties, Spiderman, Ping Pong and Tony Hawk. This year we also expect to bring back the two Crime franchise with an open world action title you'll be hearing a lot more about in the coming months.

With respect to the Call of Duty franchise, we plan to release the second Map Pack for Call of Duty Modern Warfare 2, which is currently in development at Infinity Ward. And we expect November 9 will be our biggest launch of the year with Call of Duty: Black Ops. Last Friday, we reveal first details regarding the highly anticipated game developed by our Treyarch studio. This year's title, Black Ops, represents the first time that the entire 200-plus people at the Treyarch studio had been focused exclusively on one single game with teams dedicated to creating single player and co-op modes, multiplayer game play and DLC, where they can see our back half line up is heavily focused on big propositions and expands across many demographics and genres. In addition, we continue to build for the future by broadening the franchises we have for our new genre and business model and selectively adding proven development resources and new intellectual properties for the future.

So now I'd like to turn the call over to Mike Morhaime, who will provide an update on Blizzard Entertainment.

Michael Morhaime

Thanks, Thomas. I'll start off with the review of our performance for the first quarter and then discuss what's in store for Blizzard Entertainment for the rest of 2010.

Q1 2010 was another dream [ph](47:29) quarter for us as we grew revenues and operating income over the prior year. The World of Warcraft business is strong and continues to maintain it's large and stable player base of over 11.5 million subscribers. And later this year, we'll be looking to bolster our business with the release of Cataclysm, the Cataclysm expansion set. I will talk more about this in more detail later.

For now, I'd like to discuss StarCraft II. Earlier this week, we announced a global release date of July 27, 2010. We began Beta testing the game back in February and have received a lot of great feedback from our players and the press. Hundreds of thousands of players around the world have participated and our development team is continuing to collect their feedback to improve and polish the game as we draw closer to ship.

The enthusiasm of our players is evident in a lot of ways. We're already seeing a huge number of replays and shoutcast on YouTube. Xfire also list the StarCraft II Beta in the top 15 most played PC games and the number two RCF [ph](48:30) behind Warcraft 3. This is an extraordinary feat considering that we're running a closed Beta and limiting the number of players. All the excitement has resulted in strong pre-order numbers for StarCraft II from our retail partners.

From a logistics standpoint, StarCraft II will be our most ambitious launch ever, with the game available in 11 languages and across five continents. Beyond globalizing the game into our players' native languages, we think it's equally important to tailor the business model in each region to suit the unique requirements of each market. This was one of the keys to World of Warcraft's global success and we are applying to those same principles to StarCraft II.

In the West, the standard game will include unlimited play in keeping with the market standard in North America and Europe. In regions like Russia, Asia and Latin America, we will have additional options for players using time-based access models to make the game affordable to a wider audience while also creating a source of recurring revenue. We'll discuss these options in more detail by market as we draw closer to launch.

I'd like to talk a little bit about now, which has been in Beta testing along with StarCraft II. As the future home of all Blizzard games, we believe will offer a lot of great features that will improve the online gaming experience for our players, including a feature we call Real ID. Real ID is a completely voluntary and optional level of identity that keeps players connected across all of When you and a friend mutually agreed to become Real ID friends, you will gain access to a number of great features such as the ability to chat across different games. You will also see your real life friends by their real names. This unifies the community experience across all of our games and makes online gaming more accessible as you won't need to memorize the various character names of all your friends in different games on Throughout the Beta test, we've made improvements to ladder and other areas while adding other functionalities like achievements.

We also released the StarCraft II map editor to our Beta testers. In just a few short weeks, we're seeing the creativity of our players reflected in new modes and maps. Players are creating everything from racing games to adventure games and more using our powerful content creation tool. We believe that the map editor will create tremendous value for all StarCraft II players and motivate even more people to try the game.

I also want to discuss another very exciting feature that ties in to Real ID., our Facebook integration. The first part of this integration will be the ability to easily find all of your Facebook friends who are also on and add them as Real ID friends. This is an important future as we want to make it as easy as possible to find your friends and play games with them over To make the online experience a lot more fun for our players, it's always more fun to play with people that you know.

When we launched both StarCraft II and the revamped surface on July 27, StarCraft II players will be able to immediately communicate with their friends in the World of Warcarft. This is an exciting first step for us in unifying the Blizzard community of gamers, and we look forward to continued development of the service after launch.

Now I'd like to talk a little bit about World of Warcarft. We've already begun internal testing on our upcoming expansion set, Cataclysm, and expect a larger external Beta test to begin in just the near future. This means we're on track for release of Cataclysm later this year. Historically, our expansion sets have spurred growth in the World of Warcarft player base. So we are optimistic that this new content will help us win back players who've taken a break from World of Warcarft as well as attract new players to the game.

As a matter fact, one of the design objectives for this expansion pack is to overhaul a lot of the content from the original World of Warcarft. So we've added a lot of content over the last five years via patches and expansion sets. Most of the original areas and dungeons in World of Warcarft have remained unchanged since 2004. With Cataclysm, we will leverage the vast expertise and experience of our developers that they've gained over the past five years and redo the lower and mid-level content in the game to bring them up to the constantly rising gameplay standards.

By improving the new player experience, we believe that Cataclysm will help us attract and keep more new players and contribute to growth in the World of Warcarft community. We've also made significant efforts on the marketing side to attract new players to World of Warcarft.

Our Q4 outreach advertising campaign starring Mr. T, quickly doubled our new player trial volume in both the United States and Europe. We also saw a record number of returning subscribers in North America in December and record trial activations in Europe during the first week of January. Due to the success of this campaign, we've gone back on air this week in North America and Europe.

We're also continuing to add new value-added services. On the last call, I discussed the remote auction house. Normally, our players have to log into World of Warcarft to be able to buy and sell virtual items for in-game currency. The new remote auction house service will allow our players to access this functionality from outside the game using browsers or mobile devices like the iPhone. This service is well into internal testing, and we're looking forward to releasing more details about it very soon.

Existing value-added services like paid character transfers, faction changes and the Pet Store are seeing continued interest from our players. A few weeks ago, we introduced a new pet, Lil' XT, as well as our first mount, the Celestial Steed, in the Pet Store. The mount in particular was the tremendous success. We will continue to add new content and new services over time to meet player demand.

With the upcoming launches of StarCraft II, the revenge service and World of Warcraft Cataclysm, Blizzard Entertainment is placed to have it's biggest year ever. Looking further down the road, we continue to maintain a solid pipeline of games with Diablo III and our unannounced MMO, making great progress. We also look forward to sharing more news about StarCraft II, the World of Warcarft and Diablo III at this year's BlizzCon in October.

Thank you. And I'll turn the call back over to Kristin.

Kristin Southey

Thank you, Mike. And operator, we'd like to open it up for questions. I'd just again, want to remind everyone that given that we are in litigation related to Infinity Ward past and present employees that we will be limited in what we can say with regard to the circumstances. So operator, with that, we can start your questions.

Question-and-Answer Session


[Operator Instructions] We'll take our first question from Heath Terry with FBR Capital Markets.

Heath Terry - FBR Capital Markets & Co.

Thomas, you mentioned that World of Warcarft was better than expected in the quarter. Can you give us a sense of what that means from a subscriber standpoint, since we've generally seen subscribers flat for the last year or so? Or was this simply higher ARPU per subscriber that you were referring to?

Thomas Tippl

Yes, I think the subscriber trends have been healthy. We continue to make great progress and probably slightly better than we had even expected, particularly in China, since we entered the relationship with NetEase, and NetEase has been doing a fantastic job, growing the World of Warcraft community in China. So that's tracking very well. And then in addition, as Mike mentioned in his earlier remarks, there's a lot of traction for the additional services that Blizzard has started to offer their gamers, and those have been selling very well as well.

Heath Terry - FBR Capital Markets & Co.

So it's safe to say and say that we're still at 11.5 million subscribers?

Thomas Tippl

Safe to say that we have not yet reached a new milestone that we will be ready to announce.

Michael Morhaime

Well we can't confirm we are over 11.5 million so. I just want to add a couple of points because we have a couple of reasons for optimism about the future this year as being a big year for World of Warcarft. And I just want to call out two of those reasons. One is, of course, the launch of Cataclysm, which we're very excited about. Historically, we've always seen a nice bump of returning players, as well as new players when we've launched expansions. And also we've seen great momentum for the game in China despite the fact that we haven't launched Wrath of the Lich King yet. And we also expect that when we do receive approval to launch Wrath of the Lich King, that will also drive interest for the game in China.


Next, we'll go to Brian Pitz with UBS.

Brian Pitz - UBS Investment Bank

With respect to Map Packs for Call of Duty, should we expect at least two additional releases for Modern Warfare 2 this year? And also is that $15 ESP sustainable? And just a quick on regarding Blizzard, is it likely that we can see two or more releases annually from the studio going forward?

Thomas Tippl

So with regard to the Map Pack, I think they've been selling incredibly well. As you know, we've expanded the number of maps that we are providing as part of that release. And therefore, the $15 price point has still provided a fantastic value to gamers and is also evidenced by the billions of hours that people are playing the game online. So we think that has worked. We have currently the second Map Pack in development at Infinity Ward. So we expect this to be launch sometime later this year. And we haven't made any comment beyond that at this point. And I'll let Mike handle the question on the Blizzard release schedule.

Michael Morhaime

I'll just say that we have a great pipeline of products in developments, and we'll continue creating content for our games. We've already announced that we'll be creating two expansions for StarCraft II after launch, but we haven't announced any details about the new release schedule.


Next we'll go to Collis Boyce with Morgan Stanley.

Collis Boyce - Morgan Stanley

One question just around mobile. I know that historically, you guys have licensed your franchises, and now that iPhone's and iTouch's are about 86 million for an installed base, the iPad already has 1 million units. So I was wondering if that still your strategy going forward or if there's any change to how you think of mobile?

Thomas Tippl

When we settled along that, prioritization of opportunities is always our greatest challenge when you have lots of growth opportunities. As the installed base of the mobile devices gets bigger. If we can -- we have a number of products that are on those platforms today that are performing well, but I think one of the challenges for us is really figuring out how do you have a profitable business on those platforms. And they generate a modest amount of profitability. I will say this, I think over the course of the next couple of years, that iPhone and mobile, generally will present opportunities for growth and margin expansion that we haven't seen in the past. So we're getting more excited about the opportunities there.


Next, we'll go to Edward Williams with BMO Capital Markets.

Edward Williams - BMO Capital Markets U.S.

Quick question for you Bobby. As you look at Call of Duty, can you give us an idea as to what you're seeing with the ARPU given -- kind of what's the uptick rate like for the expansion packs? And how much have you been able to expand ARPU above and beyond what the retail prices?

Robert Kotick

We don't really look at ARPU per se. I think what we're really focused on is how can we deliver value-added experiences to our customers that are worth paying for. And I think that we clearly looking at the amount of consumption. We're doing that. I think that we're going to continue to invest against the opportunities that downloadable content provide. As long as we see that the collections of what's included in the Map Pack is really going to deliver delight, surprise, enthuse our audiences, we'll continue to do that. But I can't say that we really look at it from a sheer ARPU perspective.

Edward Williams - BMO Capital Markets U.S.

And can you comment a little bit about what steps you may be taking with that particular franchise going forward and integration, if any of that could come in to the platform?

Robert Kotick

We haven't said anything about integrating it with I think that Blizzard is focused on using as a principal tool for StarCraft II. And I'll let Mike answer that question. But from our perspective, what we're focused on right now is enhancing the multiplayer experience. And I will say this, that what we're delivering in Call of Duty: Black Ops in multiplayer is I think beyond what any of our expectations was in terms of quality, capability, functionality. So I think, where our players are going to get a lot of opportunity for an enhanced experience is going to be later this fall in Call of Duty: Black Ops. But Mike might want to...

Michael Morhaime

On the question, I just would say that our focus right now is developing to support those Entertainment games. I don't have any announcements to make at this time regarding integrating the service with any non-Blizzard games.


And next we'll go to Doug Creutz with Cowen and Company.

Douglas Creutz - Cowen and Company, LLC

I was wondering if you can maybe go into a little bit what the economic structure is for StarCraft II in Korea, given they have sort of a unique PC café market there? Is it still kind of a stray unit model or is there some sort of a revenue share deal that you have with the PC cafés?

Michael Morhaime

We have not yet announced the details about our IGR model in Korea. What we have said is that players will be able to purchase access to StarCraft II. We've announced the pricing of 69,000 Korean won. And we have announced that there will be alternative pricing options available, as well as pricing for current WOW players that we're going to be announcing later. But for competitive reasons, we're not ready to get into additional detail right now.


Next we have Ben Schachter with Broadpoint AmTech.

Benjamin Schachter - Broadpoint AmTech, Inc.

When you look at Korea, just what percentage of revenue do you think will come from Korea for StarCraft in the first year? And then if you could tell us what does the StarCraft brand mean in China and when we might expect to see it there? And then finally on StarCraft, how many of these worldwide do you expect to sell direct through Is that going to be very different from your past relationships selling it through retail?

Michael Morhaime

Starting with the last part, for a competitive reasons, we can't go into our anticipated breakdown for digital versus retail and how many players might opt to download the game this release from the Blizzard store versus how many might get a boxed copy from retail. But we are committed to providing different distribution options and payment options in various regions for players that want to play StarCraft II. And the objective, of course, is to reach the widest possible audience. Regarding the breakdown of revenues by region, that's not something that we break down. I can say that the StarCraft brand is extremely strong in Korea, as you know. And the Blizzard brand is extremely strong throughout Asia and in China. And so Warcarft III happens to be more popular in China than StarCraft was. But that really, I think, is a product of the timing of the release and just that as the market in China evolved since Warcraft III came out later, we were able to attract more players to play it. But throughout Asia, StarCraft is still a very strong franchise. And we expect there's a lot of buzz and a lot of anticipation in China. And so we expect to have success in China similar to other regions. In terms of the timing of the launch in China, I don't have any forecast for you other than to say that our desire is to launch the game in China as soon as possible, and we'll work with the relevant government authorities and with our local partner to ensure that we can do that.

Benjamin Schachter - Broadpoint AmTech, Inc.

And Thomas, just quickly, excluding music and excluding COD, will Activision Publishing be up or down year-over-year?

Thomas Tippl

Excluding music and Call of Duty, we'll probably be up year-over-year.


Next we have Justin Post with Bank of America Merrill Lynch.

Justin Post - BofA Merrill Lynch

Just want to clarify Call of Duty for next year. It sounds like there could be a Sledgehammer version and an Infinity Ward version. Can you just talk about that and are you at all worried about diluting the brand value of the franchise by having so much content out there next year?

Thomas Tippl

Our standards for the content that we are willing to put up under the Call of Duty franchise banner is extremely high. We have built a very enthusiastic and loyal fan base over years that have very high quality expectations. And the last thing we would ever do is put a product out that doesn't live up to the standard. In fact, what we're trying to do with every product is raising the bar. And the good news about having such a large community that's banking so many hours playing the game, and now also the online connectivity and all the data that we are gathering on our back end, allows us to see what parts of the game player appreciate the most. It also had a vocal fan base, the let us know the kinds of gameplay mode, services, et cetera, that they would love to have but they're not having yet. And all of that fit into our development process. So we are extremely well-positioned on Call of Duty because of the consumer interest that we have and because of the fact that we have a very developed, very talented developers working on the franchise. And in fact, we never had more talented developers working on this franchise than we have right now. We've added, Sledgehammer, which is a super-talented team. There's still a large group of extremely talented individuals at Infinity Ward that we're going to supplement and Treyarch has gotten better and better every year. And I think you will all be surprised by the quality of Call of Duty: Black Ops, which is going to be just phenomenal again this year. So we're very bullish about our plans. We know the expectations are high, and we have confidence that our development teams will live up to those expectations and exceed them as they've done in the past.

Justin Post - BofA Merrill Lynch

And is there an Infinity Ward shooter version coming out for next year? Can you confirm that at this point?

Thomas Tippl

We have not yet confirmed the individual plans for next year. We usually don't do that at this time. They're very focused on our communication right now about the release from this year. What we have said is that Infinity Ward is working on the Call of Duty title. And you'll hear more details as we advance through the year.

Michael Morhaime

Remember, Justin, and this is a history that we have. We are laser focused right now. We don't want any distraction from the continued success, for the amount of work [ph](69:36) for two in the market [ph](69:36) and more importantly, the release of Black Ops later this year.

Justin Post - BofA Merrill Lynch

How is the retail reception? And what are you hearing about Black Ops? Any way of quantifying it all versus last year, which was just obviously, an unparalleled success?

Thomas Tippl

Retail is very excited about the new game, and we again, I think, set up for another blockbuster launch that's going to be supported with great advertising, a major marketing campaign and tremendous retail support.

Robert Kotick

And it is an extraordinary multiplayer product.


And we do have time for one more question. We'll take the question from Jeetil Patell with Deutsche Bank Securities.

Jeetil Patel - Deutsche Bank AG

I guess it's been obviously quite a bit of controversy in the markets about the Activision in different things. I guess can you discuss maybe 2011 broadly qualitatively? Do you think earnings grow in 2011? And second, question around StarCraft II. I know a lot of folks have asked questions on this but it seems like a hybrid business model has software and subscription/royalties. I guess when you look at the opportunity for a game like StarCraft II and I guess it's still played after 10 years. I guess if you look at over the next five or 10 years, what percent of the opportunity or revenue opportunity comes in the form of the traditional software model versus maybe what we're not thinking about, which is subscriptions and royalties and licensing and all the other ancillary pieces of the equation you weren't able to monetize or capture here on the past decade with number one? Can you go through those? That would be great.

Robert Kotick

I'll take the first part of your question, Jeetil, but we have a 20-year history of growing earnings and expanding margins. And while we don't give outlooks for next year, this year, I think you know what our commitment is to growing our margins and expanding our business. And I think Mike will be best equipped to handle the second part of your question.

Michael Morhaime

I think initially, the StarCraft II launch will probably look very similar to previous launches with the model being driven by the sale of the unlimited client, either at retail or digitally. But as I mentioned, we plan to tailor the business model in each region in a way that makes sense for individuals in each region. So I think that, that will have the impact of basically extending out the life of the game. I think it will also create additional accessibility for markets that really don't support a full retail price point, like the United States and Europe. I just want to call out as an example, I'm going to give Russia as an example. The way that it will work is we're going to offer two retail packages in that region. One would sell for the equivalent of about $33 and will include one year of play. Another would sell for the equivalent of about $16.50, and that would include four months of play. Players would then have the option of purchasing additional time for a fee or even upgrading their account to unlimited play. And we think that giving players in these regions more options on how to pay for StarCraft II, that will attract a wider audience and also minimize piracy.

Jeetil Patel - Deutsche Bank AG

I guess do you look at any particular model out there in media or in general that may be a good proxy for us to look at, just as a concept to think about StarCraft II? And second, I guess, is the StarCraft II model that you're looking at broadly, maybe a blueprint for how you look at online in general as you look at some of the other franchises and this integration of client versus online?

Michael Morhaime

As far as the model goes, our perspective on that is we always design our games first and tailor the model to what's appropriate to both the game and to individual region and how we expect people to play the games. And in terms of predicting what the breakdown might look like, I think I'm going to leave that up to you.


And that does conclude today's question-and-answer session. I'd like to turn the call back over to Kristin Southey for any additional comment or closing statements.

Kristin Southey

Well, thank you. On behalf of everyone in Activision, everyone, I thank you for your time and your support.


That does conclude today's conference, and we thank you for participating.

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