Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Activision Blizzard (NASDAQ:ATVI)

Q3 2010 Earnings Call

November 04, 2010 4:30 pm ET

Executives

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 -

Eric Hirshberg - Chief Executive Officer of Publishing Unit

Analysts

Brian Pitz - UBS Investment Bank

Douglas Creutz - Cowen and Company, LLC

Edward Williams - BMO Capital Markets U.S.

Justin Post - BofA Merrill Lynch

Brian Sozzi

Jeetil Patel - Deutsche Bank AG

Operator

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

Kristin Southey

Good afternoon and thank you for joining us today for Activision Blizzard's Third Quarter 2010 Conference Call. With me today are Bobby Kotick, CEO of Activision Blizzard; Thomas Tippl, COO and CFO of Activision Blizzard; Eric Hirshberg; CEO of Activision Publishing; and Mike Morhaine, CEO of Blizzard Entertainment. I would like to remind everyone that during this call, 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 risk and uncertainties. As indicated in the slides that is 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 statement. Such factors include, without limitation: Sales levels; increasing concentration of titles; shifting consumer spending trends; current macroeconomic and industry conditions; conditions within the video game industry; the seasonal and cyclical nature of our industry; our ability to predict consumer preferences among competing hardware platforms and genres; possible declines in pricing; product returns; price reception; product delays; retail acceptance of our products; adoption rate and availability of new hardware and related software; competition, litigation and associated cost throughout the changes in technology; industry standards; business models, including online and youth 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 risk; 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, and then the company's other SEC findings. The company may change its intentions, views, or expectations at anytime and without notice based upon any changes in such factors in the company's assumptions or otherwise. The company undertakes no obligations to release publicly any revisions to any forward-looking statements to reflect events or circumstances after today, November 4, 2010, or to reflect the occurrence of unanticipated events.

I would 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 change in deferred net revenues and related cost of sales with respect to certain of our online-enabled games, expenses related to share-based payment, the operating results of products and operations from the historical of any gains that [indiscernible] that the company has exited or substantially wound down. Costs related to the business culmination between Activision and the vendor games, the amortization of intangibles and impairment of intangible assets and the associated tax benefit. Please refer to our earnings release, which is posted at www.activisionblizzard.com, for a full GAAP to non-GAAP reconciliation and further explanation. Finally, there is a PowerPoint overview which you can access with the webcast and which will be posted in the website following the call. And now I would like to introduce our CEO, Bobby Kotick.

Robert Kotick

Thank you, Kristin, and thank you for joining us today. Today, we're excited to report that Activision Blizzard delivered another quarter of better-than-expected financial results. As the results, we're raising our 2010 outlook for both the revenue and EPS reflecting the continued strength in our business and our confidence in our continued execution.

While we're likely to achieve record profitability this year, we sometimes overlook the strong ability our businesses have to convert profits into cash, which for the last 12 months, have generated approximately $1.2 billion of operating cash flow. Our increased outlook puts us on face for the most profitable year in our history and our highest operating margins ever. And should, I believe, allow us to maintain our leadership position as the world's largest and most profitable online entertainment company.

Our biggest brands are thriving, while many other media and entertainment companies including most of our direct competitors are experiencing challenges. We continue to see a shift in the way our consumers play games, which immerse for our unique benefit. Having the largest reservoir of our online gaming expertise combined with the most capable studios and development teams, has resulted in the deeper and wider moat surrounding our core franchises. More importantly, we are delivering some of the world's best games for the largest audience of gamers we have ever addressed.

All of this, not only means that our business is stronger financially, which it is, but it also means that our audiences are embracing the franchises around which this moats are built. Mike Morhaime, will give you a glimpse of how we're seeing this happen within Blizzard's games.

And this is clearly true with Call of Duty. Our latest installment Black Ops launches next week and is likely to be the biggest entertainment launch of all time. In the landscape where many entertainment providers are trying to figure out how to manage lower audience engagement and rapid obsolescence, our core franchises are posting record engagement levels and seeing adoption curves that are longer, deeper and with sadder tails than ever before. And our players are enjoying a higher level of quality that we have ever delivered. Though we have performed so well during a period in which many consumer businesses beyond video games have seen only disruption and decline is not due to chance.

Three years ago, we recognized that success in our industry would require a significant changes to product development and business models. In response, we merged with Blizzard, arguably the most incredible digital business in all media and entertainment. Since then, we have combined Activision's strong legacy and game development, marketing and retail sales execution with Blizzard massive online and PC franchises, its virtual world in World of Warcraft and the supporting architecture and intelligence behind that world to create a combined company that is truly unique in our capabilities across both physical and digital channels.

We've transferred many elements of Blizzard's expertise to our approach to Call of Duty, which now joins the very short list of entertainment properties that have successfully bridged traditional and emerging models. This quarter, we added StarCraft II to our core portfolio. One of the highest-rated games ever, StarCraft II represents yet another exceptional quality title from Blizzard that was developed with the needs and interests of today's connected audience in mind.

StarCraft II is already off to the fastest start of any strategy game ever, with even more content and geographic expansion on the way. I have great confidence that with its global player community, exceptional game quality and deep multiplayer appeal, the StarCraft franchise will continue to see high levels of player engagement and make significant financial contributions to our company.

Our strong execution and significant investment in immersive digital opportunities, while other struggle with dependents on legacy business models underlies my confidence in the future for Activision Blizzard. In particular, there are three factors that position us exceptionally well. First, interactive entertainment continues to broaden its appeal to wider consumer audiences. Second, our franchises are among the most successful in all of entertainment. Third, and perhaps most important, we have some of the strongest, most creative development and sales and marketing talent in our industry, in fact, in any industry, filling out a product pipelines that is one of the strongest I've seen in my 20 years at this company and an incredible balance sheet and the deep financial resources to ensure the success of our games in the marketplace for many years to come.

Today, audiences want to be connected. They expect games to have a strong social component, and they want the ability to customize and express themselves to their entertainment experiences. Our gamers also want immersive stories and experiences that offer the depths and exceptional production values that we are uniquely delivering.

As interactive entertainment stretches to meet this broader demand, it not only brings in new audiences, but embraces and immerses traditional audiences more tightly than ever before. Through today's video games, we are now delivering against all of the most important consumer expectations, advanced user interfaces, high definition and 3D graphics, online connectivity, mobility, deep and compelling storylines and massive highly engaged communities, such as those you see on our core franchises.

Only a select few properties and interactive entertainment are bringing together these characteristics of depth, quality, creativity immediacy and connectivity in a single entertainment experience like our franchises do. As a result, you've seen World of Warcraft set the all-time launch record for PC games on its last release and continue to raise the standard for massively multiplayer online games with new record subscriber levels.

You've also seen Call of Duty, and now StarCraft II shatter launch records, Call of Duty taken at even one step further by setting new on march for game players in Xbox LIVE. In fact, we believe that the cumulative hours being played online by our gamers is starting to approach the time audiences spend watching any given television network.

As we look ahead, our portfolio is likely to increase in size and breadth, and our core franchises should continue to strengthen. Starting next week with the launch of Call of Duty: Black Ops and over the next month with the release of Blizzard Entertainment's Cataclysm, we'll be enhancing the online offerings available to our player communities. And further out, we look to expand franchises like Call of Duty both geographically and in places, including China.

In addition, Blizzard has an unprecedented pipeline and development, including two expansion packs to StarCraft II, the highly-anticipated next generation of the Diablo series and Blizzard's next MMO the title of which, is yet to be announced. We also have a Bungie the creators of the groundbreaking Halo series embarking on their next major product, which will be published exclusively by Activision for a decade.

In the market that rewards truly great content, it's incredibly valuable and personally rewarding to work with such extraordinary talented and capable people. I'm excited to introduce to you Eric Hirshberg, who officially joined us as CEO of Activision Publishing almost two months ago and has already had a terrific impact on our business. Eric brings exactly the kind of high-energy, creative inspired leadership that we need to continue accelerating our business for many years to come. We're better positioned than ever before to capitalize on the numerous opportunities we continue to see for growth and margin expansion and the continued delivery of the very best games in the world.

Now I'd like to turn the call over to Thomas Tippl, who will provide a review of Activision Blizzard's strong financial results for the quarter and review our outlook for the balance of 2010. Thomas?

Thomas Tippl

Thank you, Bobby. I'll begin with a recap of our September quarter results followed by a review of our outlook for the fourth quarter and full year 2010. For your reference in our press release, the status schedules, which provide non-GAAP comparables 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 GAAP to non-GAAP reconciliation.

For the third quarter, GAAP net revenues were $745 million, ahead of our outlook by $145 million. GAAP operating income was $55 million and EPS was $0.04 also ahead of our breakeven GAAP EPS outlook. For the first three quarters of the year, GAAP EPS is up 73% over the prior year.

Non-GAAP net revenues were $857 million, ahead of our outlook of $725 million. Non-GAAP operating income of $204 million and EPS was $0.12, exceeding our non-GAAP outlook by $0.04. Importantly, for the first three quarters of the year, non-GAAP EPS is up a strong 29% over the prior year.

The quarter was driven by Blizzard Entertainment's StarCraft II and World of Warcraft along with Activision's Call of Duty, Spider-Man and Guitar Hero. Compared to prior year, as well as our outlook, third quarter non-GAAP net revenues and operating income were up considerably driven by the strong performance of StarCraft II and Call of Duty combined with continued cost control.

While World of Warcraft was also a key driving the quarter. Third quarter non-GAAP net revenues for World of Warcraft throughout versus the prior year overbounced slightly from the second quarter primarily due to the absence of new value-added service or new game item releases. The strength of these online enabled franchises helped drive a 1,400 basis point expansion operating margin for the quarter compared to prior year.

Heading into the same breadth with the launch of Cataclysm, World of Warcraft tends to benefit from its largest ever global audience base, driven by a large number of returning subscribers anticipating the new content. Products with strong online integration and digital revenue streams continue to drive growth for Activision Blizzard. For the nine months ending September 30, 2010, our digital offering contributed close to half of our total non-GAAP net revenues. And for the same period, digital revenues have increased approximately $165 million, more than 15% over the prior year.

As our premium quality online-enabled content continues to outperform, we generate extended digital value creation opportunities beyond the initial retail sale. Our focused execution against these highest margins and highest growth areas, combined with comp discipline, continues to yield significant operating leverage, earnings power and cash flow generation. This dynamic was once again reflected in our results this quarter.

Before I review the P&L line items for the September quarter, I'd like to note that all percentages will be coded at the potential of net revenues with the exception of our tax rate. Our GAAP product cost was 34%, GAAP operating expenses are 58% and our GAAP tax rate was 26%. In the third quarter, non-GAAP product was 30%, a bottom line with our outlook. Non-GAAP operating expenses were 46% better than expected, driven mainly by the timing of marketing spend and low product development cost. We delivered a 24% operating margin, which is the highest ever outside the holiday quarters since our merger. Our effective non-GAAP tax rate was 28%.

Now turning to the balance sheet. On September 30, we had no debt and approximately $2.9 billion in cash and investments. This quarter, we repurchased $263 million worth of stock through September 30, we purchased about 55 million shares for approximately $600 million under the current $1 billion authorization.

Now let me turn to our other key balance sheet positions as of September 30. We announced receivable balance was $246 million, an increase of $56 million versus the prior quarter end. The increase was primarily due to higher revenues in Q3 and the late quarter release of the warriors of rock and Spider-Man: Shattered Dimensions. Inventories Guitar Hero: Warriors of Rock and Spider-Man: Shattered Dimensions. Inventories got $258 million up approximately $100 million versus the prior quarter in advanced of our Q4 releases, but down by $93 million versus the prior year, due mainly to a reduction in catalog and peripheral inventory.

Catalyze offer development cost the $285 million, an increase of $36 million versus the prior quarter due to upcoming releases. Of the $285 million, approximately $52 million is related to deferrals online enabled games. Capitalized intellectual property cost was $62 million, above $3 million below a year ago.

Turning to cash flow for the trailing 12 months, we have generated approximately $1.2 billion in operating cash flow. In summary, our financial position remained strong and puts us in an excellent position to capitalize on investment opportunities for long-term growth. For now on to the company's outlook.

Our outlook is subject to significant risks and uncertainties including those mentioned at the beginning of this call and the risk highlighted in the company's annual report on Form 10-K for the period ending December 31, 2009, and the company's other SEC filings. As a result of these and other factors, actual results may deviate materially from the outlook presented today. Again, all percentages will be quoted as a percentage of net revenue with the exception of the tax rate.

On the strength of our third quarter results, we are raising our revenue and EPS outlook for calendar 2010. We now expect GAAP net revenues of $4.28 billion and GAAP EPS of $0.51 representing an increase of $100 million revenue and $0.02 of EPS versus our prior GAAP outlook.

We're also raising our non-GAAP outlook. We now expect non-GAAP net revenues of $4.45 billion and non-GAAP EPS of $0.74, representing an increase of $50 million in revenue and $0.02 in EPS versus our prior non-GAAP outlook. For the full year, we expect GAAP product off of approximately 33% and operating expenses of about 47%. We projected GAAP effective tax rate of about 27% and a diluted share count of about $1.24 billion. On a non-GAAP basis, we expect product cost of 32%. Gross manufacturing margins are expected to expand meaningfully year-over-year due mainly to Blizzard's high margin slate and double-digit growth in digital revenue streams.

We expect non-GAAP operating expenses of almost 39%. This is higher than a year ago due to our larger slate. Also, Blizzard is continuing to increased investments in product development and customer service to drive long-term growth.

For the calendar year, we expect a record non-GAAP operating margin of 29%. We expect to achieve our 300 basis point margin expansion targets by focusing on the core consumer and retail, combined with a continued emphasis on our higher margin Online business. We expect our effective non-GAAP tax rate to be about 29% and expect the diluted share count of about 1.24 billion.

Now moving to the outlook for fourth quarter of 2010. For the quarter, we expect GAAP net revenues of approximately $1.26 billion. We expect GAAP product loss of 37%, and operating expenses of about 63%. We project the share count of 1.21 billion and a GAAP loss per share of $0.01.

We expect non-GAAP net revenues of $2.2 billion for the quarter and EPS of $0.47. Net revenues and EPS are expected to be down versus the prior year, was about half of the difference driven by lower FX and the remainder reflecting lower expectations for Activision Publishing versus the prior year.

Make no mistake, that this year's Call of Duty release of Black Ops is great momentum. However, our financial plans, proven the assumed performance below last year given the record-breaking success of Modern Warfare 2 in a more competitive environment. We expect non-GAAP product cost of 31%, non-GAAP operating expenses of 32% and a non-GAAP percentage tax rate of 29%. We also project that diluted share count of 1.22 billion.

In summary, we believe our combined company strengths and the Retail and Online segments our continued cost containment efforts and our significant financial strength position us to drive another year of record non-GAAP operating margin and earnings per share. So now, let me hand it over to Eric, to discuss our Activision Publishing business.

Eric Hirshberg

Thanks, Thomas, and hey, everyone, it's great to be here. As you might imagine, many people over the last month or so have been asking why I left a great 20-plus year career in advertising come to Activision. The answer for me is simple, I believe that videogames are revolutionary entertainment and is poise to become the entertainment medium of the 21st century. Both as the marker and as the lifelong gamer, I'm a huge fun of Activision's portfolio brand and in fact that Activision has a lot -- best-in-class retail and online capabilities gives me a very solid foundation to stand upon.

For me this the chance to take everything I know how to do in my career from identifying consumer trend leading a creative process to building a culture centered round ideas and creativity and applied to one of my personal passions of video games. All of those things combined to make this an easy decision for me.

As you know, in just a few days we'll be launching the game that I currently can't stop playing, that game we call of Call of Duty: Black Ops, which we believe has the potential to be the biggest entertainment launch of the year. If it is, this would mark the second consecutive year that the franchise to deliver the largest first-week sale of any entertainment property in any medium. To my knowledge, there's no other entertainment franchise in history that has done these two years in a row.

Another big drop from the opportunity to join Activision at a time when the increasing digitization of our world is transforming how consumers learn about games, buy games and play games. This is a time not just for executing the formula but for inventing new ones.

Because of its strength of its portfolio and infrastructure, Activision has the ability to lead in a changing environment. This is particularly important and considered positive factors that should continue to drive the industry over the next few years.

First of all, they're more consoles and more households in North America and Europe than there ever have been before. On September 30, there were 242 million consoles and handheld units, an increased of 29% over the prior year. For the PS3 and 360 platforms alone, the increase is 40% over the prior year.

Second, in terms of software, the core game of preference namely the PS3 and 360 will be generating the vast majority of our operating income, a collectively up 17% year-to-date in the U.S. and Europe. In addition, PC and online sales continue to expand rapidly and are expected to grow double digits this year.

Finally, we continue to see the top 10 titles in the industry grow disproportionately year-over-year, particularly those that are online enabled and introduced expanded content like Call of Duty and Bungie's Halo.

Now turning to September quarter. Our performance was driven in part by two new launches: Spider-Man: Shattered Dimensions, which launched in early September is one of the highest-rated Spider-Man games ever and has received global critical acclaim; and in the last week of September, we launched Guitar Hero: Warriors of Rock, with an innovative marketing commercial campaign and a new rock-inspired guitar that makes a perfect holiday gift. We expect both Spider-Man: Shattered Dimensions and Warriors of Rock will continue to generate consumer and retail excitement well into the holiday selling season, where we expect the sell-through the majority of units.

In addition, the quarter was driven by the sustained retail and online strength of the Call of Duty franchise. Year-to-date, Call of Duty ranks as the number one third party franchise overall in the U.S. and Europe. In addition, through downloadable content, which is up significantly year-over-year, the brand continues to create a more engaging player experience and deeper into the product life cycle than it ever has before.

In July, we reached Call of Duty: Modern Warfare 2 resurgence back on the PS3. Year-to-date, the resurgence back and the stimulus package that we launched before have generated significant sales creating Modern Warfare 2 Map Packs alone among the top retailer leases of the year.

Now turning to the December quarter. I think it's important to start by noting over the past two years sell-through for the U.S. and European software has been fairly consistent with about 15% of sales for the quarter coming in October, 35% in November and 50% in December. So with that as a backdrop, it's clear that both the opportunities and the risks are expected to ramp-up as the quarter draws to a close.

Overall, retailers are taking a cautious approach to inventories but when we hit holiday like in the past two holidays, retailers will chase the winners. The strength has played in our favor in years past and we expect the holiday to be no different. Historically, around nine of the top 10 games in any year are based on established franchise, and our Q4 releases are 100% focused on proven franchises.

Our life has based on some of the biggest brands in entertainment including DJ Hero 2, which has been called the Music Game of the Year and features a soundtrack that's been called the best soundtrack of any music game. Tony Hawk: Shred, which will for the first time feature both skateboarding and snowboarding. This game is perfect for kids and we hope we hope make Shred one of the must-have gifts of the season. We're also launching two James Bond titles, a new game set in the GoldenEye universe exclusively on the Wii. This title has only been out for a few days, but it's already out selling last year's Modern Warfare 2 as Wii skew for the comparable period. We also have Blood Stone, an action title which will be available for all other key platforms in combined fighting, shooting and driving into one game experience.

We're also launching all-new Bakugan: Defenders of the Core based on the award-winning toy line and children's television show, which is a success for us last holiday. Finally, on November 9, we released what we expect to be the biggest game of 2010 and by far our largest title of the year, Call of Duty: Black Ops. Block Ops release on more platforms than last year's record selling Modern Warfare 2 and continues to pay us ahead in terms of consumer awareness metrics. Today, pre-orders of Black Ops have already broken the industry pre-sell record set by last year's Call of Duty. We have unprecedented levels of support both from our retail partners and from the first parties all from our vested to make this the entertainment launch of the year.

Black Ops delivers state-of-the-art quality and gameplay and several new multiplayer features, which we believe will raise the bar for the genre. Black Ops will also be playable in stereoscopic 3D. This is an incredible break through, the game is truly amazing in 3D. Well don't expect that the material impact the number units sold this year, it speaks more towards our dedication to innovation and creating the best possible experience for our fans.

As we look to 2011, we expect to benefit from the growing install base of consoles and increased online sales, especially for the core game of platforms. We will provide more information about our 2011 slate on our next call as we always do, but today, I want to give you a sneak preview of the few of the highlights.

First, there's no doubt that the Call of Duty brand presents one of our biggest launch from opportunities as the branch is one of the largest retail and online entertainment properties ever. This is evidenced by the more than 3 billion online hours as Call of Duty is in played on Xbox LIVE alone. This modern were [indiscernible] Released last November.

Strong demand and close to a decade of solid performance give us a confidence to continue invest in heavily in this brand, we should off the more opportunities for long-term growth than ever before. We remain focused on continuing to bring the cost we didn't experience to new customers around the world. In 2011, we expect to enter the year with strong momentum from continued sales of Black Ops and the rest of the calls in catalog. We've added significant resources to the brand and next year, we'll offer the call due to community, our largest line of an exciting new digital content ever.

Then in the back half of 2011, we are launching new large-scale Call of Duty first-version asking title. The creative talent and research that we now have devoted to the costly brand are unprecedented and given the gameplay, we have seen today, we could not be more excited about next year's release.

And finally, as you know we're working on a number of Call of Duty initiatives, we should continue to expand the franchise with the new geographies, including Asia, where the brand already has considerable wins. Over the next few months, you'll be hearing more about our plans to expand the franchise globally.

In addition, the Call of Duty in 2011 will have new releases for our other proven franchises including the hero brand, Spider-Man, X-Men and Transformers, which should be supported by what is expected to be another major blockbuster movie from Michael Bay.

Also slated for release next year are two exciting wholly-owned IPs, the first and the 4 billion action genre will be True Crime: Hong Kong, which is inspired by classic Hong Kong cinema style action. The additional development time we've invested in this game is really paid off with game clinic mechanics that make the fighting, shooting is sophisticated of the driving, which is something that's very hard to achieve in the OpenWorld of genre. Today, we are also announcing that we are in deep development on exciting new kids properties that will feature innovative technology that has the potential to open up a whole new product segment for us. You'll hear more update on the next call.

We also have other exciting IPs development, including the new project from Bungie, the co-creators of the ground breaking Halo series, although no launch time has been announces from new Bungie IP, it'll be an extraordinary addition to our franchise portfolio. Bungie's latest release, Halo: Reach, was one of the highest ratings games of the year, and one of the most successful games ever on the Xbox and is currently a top title on Xbox LIVE. Bungie's new game universe will aligned well against the largest and most profitable segments, including online gaming and will provide, yet another opportunity to drive avenues of growth well into the next decade. I'm so excited to be at Activision, we're focused on one thing and one thing only, which is providing the very best interactive entertainment experience for all of our players around the world. We look forward to sharing more details about our plans and policies with you on the next call. With that, I'll now turn it over to Mike Morhaime, who'll provide an update on Blizzard Entertainment. Mike?

Michael Morhaime

Thank you, Eric. We're now three quarters of the way through 2010 and Blizzard Entertainment is having its biggest year ever. The third quarter in particular has been impactful, with StarCraft II breaking sales records worldwide and leading the PC industry in sales for the year. The launch of the game helped to drive our Q3 revenue above the prior quarter, as well as year-over-year. Net revenue for the quarter was up 68% versus the same quarter last year and Blizzard's operating income increased 112% against last year's numbers.

While StarCraft II was a major driver for our results, we're also seeing an increase in MMORPG sales for the September quarter year-over-year and for the first nine months of the 2010 compared to the first nine months of 2009. We also expect to finish the full year with our MMORPG sales up compared to the entirety of 2009.

In Q3, we also launched the revamp settlement platform alongside StarCraft II, laying the foundation for our all of our future online game, as well as uniting the StarCraft and World of Warcraft communities. And finally, our partners at NetEase began operating Wrath of the Lich King in China back in August. Players in that region have flocked to the game, and as a result, we've seen our active global player base for the World of Warcraft topped 12 million.

As I go into more depth on our activities for the past quarter, I'd like to begin by talking about the launch of StarCraft II. The game has been a huge success. On the last call, I mentioned that StarCraft II sold through more than 1.5 million copies in its first 48 hours. Later in the quarter we also announced that more than 3 million copies were sold through worldwide within the first month. In fact, StarCraft II continues to show up at or near the top of Amazon's PC sales charts for the United States. This demonstrates that StarCraft II continues to ride strong sales momentum and is likely to enjoy a long shelf life, like many of our previous games.

I think it's important to put these numbers into historical perspective. When we compare StarCraft II against the base SKUs of Blizzard's most recent games, StarCraft II has been by far the most successful. As a matter of fact, StarCraft II sold almost as many copies in its first month in North America and Europe as the original World of Warcraft sold in its first year on sale in those regions.

We're obviously very pleased with StarCraft II's performance thus far, and we'll continue to build upon on that momentum. As an example, we're looking forward to launching alternative business models for StarCraft II in Latin America and Southeast Asia in the near future. These alternative pricing schemes will provide a lower entry point to players and hopefully allow us to capturing even broader audience in these emerging markets.

Now I'd like to give an update on StarCraft II in Korea. Many of you may already know that back in September, we ended the open beta period for StarCraft II in the region and began commercialization. We saw StarCraft II rise into the top 10 for IGR market share in the wake of the commercial launch, joining three other Blizzard titles. Warcraft III, StarCraft I and World of Warcraft.

And in nut shell, StarCraft II is slowly gaining in popularity in the region, the original StarCraft continues to be popular in Korea. We expect Korean players to gradually transition to StarCraft II overtime as StarCraft II e-Sports continues to grow in popularity.

We're making great headway in creating a foundation for StarCraft II e-Sports in Korea, thanks to our partnership with GraTech [ph] and their operation of the global StarCraft II lead. The first season of the GSL concluded in October and we've seen a lot of interest in that lead not only in Korea, but around the world. GraTech [ph] is reported that more than 15 million views of GSL matches in season one were served, including both live streams and video-on-demand downloads.

What's interesting about that number is that more than 30% on both views will serve outside of Korea, but not only are we seeing a lot of excitement about StarCraft II e-Sports within Korea, but the numbers are telling us that there's growing interest in pro gaming around the world. This is great news for the prospect of building a lasting global community around the game.

Season two of the GSL is already underway and promises to be even bigger than the first season, thanks to the arrival of several top StarCraft one pros, the StarCraft II seem, including a player named Boxer widely considered to be the Michael Jordan of the original StarCraft.

Next up, I'd like to talk a little bit about Battle.net our revamped online platform, which was launched alongside at start StarCraft II into liberty. All StarCraft II and World of Warcraft players are connected to the service, which includes cross-game communications, staff tracking and other cool services. Our developers have already released some improvements to the service, and we're looking forward to creating additional new features to meet player demand in the coming months. These include public and private chat channels for StarCraft II and new master and grandmaster leagues.

One of the bigger early success stories to Battle.net is how much the public has embraced the tools that we put in place for them to make [indiscernible] distribute player creating content. To date, more than 65,000 user created StarCraft II maps and mods have been uploaded to Battle.net in North America alone. The reason this is important is because user generated content helps drive replay value and longevity in games to making sure that players can distribute this content easily is important for StarCraft II in the long run. We will continue to improve these systems on Battle.net over time to bolster the community.

Moving on to World of Warcraft. I mentioned earlier that our partners at NetEase launched Wrath of the Lich King in China this past August. The new content has been a tremendous success in the region and the influx of players have been one driver in the global player based pushing above 12 million. Another factor that take into account is growing anticipation for the upcoming Cataclysm expansion set. In the past, we've seen players to take a break from game, come back shortly before a new expansion shipped in order to reconnect with friends in the game. We've also seen that expansion launches in the past have driven increases in the player base. So we hope to see a similar effect when Cataclysm ships on December 7.

Self generate even more excitement for this new expansion. We ran a TV commercial during the Cowboy Viking's game on October 17. The full game trailer debuted on YouTube simultaneously and that video collected more than 1.25 million views in its first 24 hours online, making our World of Warcraft the number one viewed YouTube Channel that day.

There's clearly a lot of anticipation for Cataclysm, and the developers have worked hard to ensure that this will be our best World of Warcraft expansion yet. This new content will improve the experience for all players, including the casual and hard core. With many of the original lands in areas of World of Warcraft shattered by our people, our artist and designers have gone back to the games all content to make it better than ever. We're making it easier for our players to get this expansion as well. As we recently announced, the Cataclysm can be visually pre-ordered and pre-loaded directly from us and will be unlocked the moment the servers go live.

And new players will get the full game up and running faster than ever as we have already integrated new streaming technology with our trial client. By combining that new technology with an improved game play experience for new players, we hope to attract and retain even more players to World of Warcraft.

We're also improving upon the service surrounding the World of Warcraft game experience as we head into the launch of Cataclysm. We recently announced that mobile guild chat will soon be added to our local World of Warcraft remote service alongside the Remote Auction House. So in addition to buying and selling items from the in-game auction house using their iPhone and Android mobile phones, subscribers to our premium mobile workout remote service will soon be able to chat with the World of Warcraft guild mates from outside the game.

Rounding up the new value-added services we've talked [indiscernible] is the new World of Warcraft pet, Moonkin Hatchling, which will go on sale later this month. We announced this pet at BlizzCon and that 50% of the revenue from the Moonkin Hatchling will go to charity. When we introduced the World of Warcraft pet last year, we donated half of the proceeds from one of the pets to Make a Wish Foundation an amount that totaled $1.1 million.

I'd like to take out just a moment to talk about BlizzCon, which we held a couple of weeks ago at the Anaheim Convention Center. This was our fifth BlizzCon and our best one yet. Among the highlights was the announcement of the fifth and final class for Diablo III, the Demon Hunter and the introduction of the games PDP mode. Players were able to try out this new content for themselves at the show and the game got a lot of great votes from the community and the press. We also hosted a number of exciting e-Sports tournaments, including a StarCraft II invitational.

More than 25,000 people attended the show with another 95,000 paid viewers following along via direct TV or the live Internet stream. Jay Moore, once again hosted costume and dance contest while Tenacious D closed the convention with an amazing concert.

As we head into the final quarter of 2010, we're focusing all of our efforts on a successful launch of Cataclysm. These are exciting time [indiscernible] entertainment. More gamers than ever before are playing Blizzard games, and we look forward to the continued growth of the Blizzard community moving into 2011. Thank you, and I'll hand the call back to Kristin now.

Kristin Southey

Thank you. Okay, operator, I think we're ready to open up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] We'll go first to Brian Pitz from UBS.

Brian Pitz - UBS Investment Bank

Bobby, I have a quick question on the Call of Duty franchise. Do you think you could grow the franchise in excess of the year-over-year growth rate and console install base over the next year? And secondly, can you provide us with your thoughts on the new motion control devices? Are you surprised by pre-order volumes? I know that Microsoft picked your number in the past 24 hours. And can you comment on how many titles you have available for 2011?

Robert Kotick

So let's start with the moving connect. I think that anything that generates new interest in the consoles is a very welcome innovation, and I think that both done a very good job of retaining products that can broaden audiences, offer new opportunities for the way that you interact with the games on the screen. And so, we're excited obviously that Microsoft has increased the forecast because I think it's just going to generate a lot of interest and enthusiasm for games overall. I'll have that and Kristin gave me the exact release late, we obviously are supporting the both controllers with a lot of different products. As far as the Call of Duty franchise, I didn't exactly understand the question. Were you asking, was it possible for the -- well, why don't you ask it again, Brian?

Brian Pitz - UBS Investment Bank

Is it possible to grow Call of Duty year-over-year above and beyond previous growth rates, but also factoring in what the console installed base estimate might be out there? Can you grow in excess of just console growth?

Thomas Tippl

This is Thomas. We have more development resources dedicated to Call of Duty than we've ever had before. We think that's a tremendous amount of appetite for Call of Duty content as well as services. We have still in large geographic expansion opportunity ahead of us on Call of Duty. So we have very bullish on the franchise. And as it relates to our plans for 2011, we'll do what we always do and that is give you the details we've done with our own planning and budgeting exercise that we're going to right now, and that's going to happen as every year at the end of our January call. But we believe that the growth opportunity in Call of Duty has never been stronger than what it is today for us particularly given the strength of our development teams and the consumer excitement and the equity behind the brand or of the metrics that we are looking at reaching out all-time records. So we are very bullish about it. One thing I just want to clarify, sp you we're asking for this year or for next year?

Brian Pitz - UBS Investment Bank

For next year, for 2011.

Robert Kotick

I think as Thomas said, and I just echo it, is you're asking is it possible? Sure, it's possible.

Operator

We'll go next to Justin Post with Bank of America Merrill Lynch.

Justin Post - BofA Merrill Lynch

Following up on Call of Duty. What does pre-orders tell you about units, how well is that metric work for you in the past? And I think you mentioned the action title next year. Is that a first-person shooter action title or how do you define that? And then lastly, is there anyway to pick up your margins on Activision Publishing? It looks like you kind of lose money the first three quarters a year and then you make it all back in the fourth quarter on Call of Duty. Anyway to kind of pickup margins as you look out to future years on the Activision site?

Robert Kotick

The answer to that question is probably, yes, across the board. So first of all, make this Call of Duty title will be first-person shooter. And so, just to make sure there's no misunderstanding there. Then our -- the second part of the question around Call of Duty was what?

Justin Post - BofA Merrill Lynch

What are pre-orders tell you...

Eric Hirshberg

Yes, [indiscernible]. So pre-orders for us is a directional item. It shows how much momentum there is. It's usually a small part of the total amount of units that we are selling. But whenever you set new records with the pre-orders when you have pre-orders at numbers that the industry has never seen before on any given title. You'll think that you can feel pretty covenant that you have a hit on your hands. On top of that, we track consumer bugs, consumer that we have been on us around, aided, unaided awareness, we track, sweep the conversation, we track the same [indiscernible], we track user registration for the Call of Duty website and we track video views of the many trails that we put out there. And all of those metrics are showing new records for the brand. So as a result, we are pretty bullish despite the fact that we are facing a more competitive environment this year compared to last year. One of the things that's interesting about Black Ops is that you have to start looking at pre-orders in the context but not just a video game but of all media. Now, I think when you start looking at the day one sales or the weekend sales or both music, movies, DVDs, I think Black Ops is one of those products that we're looking at, a level of interest and enthusiasm beyond what we've seen in any medium.

Justin Post - BofA Merrill Lynch

When you look at activated margins, last month, in the first three quarters in the year, is there a way to pick up the activation side of the business in the first three quarters of the year as you look forward to future years?

Thomas Tippl

Yes, I think absolutely. I think we have a number of businesses where the performance is not where we like it to be. We're making some progress in those areas. But clearly, not enough and nor fast enough, so I am taking some measures at the beginning of the year. We set some of the product development targets, particularly the casual and like the spark of our portfolio. So we believe we can improve the margin performance on our Publishing business, and be have more consistent but however, what I would say is we also have not yet given up on delivering margin expansion in a more profitable Activision Publishing business for 2010 and I think that's also still a possibility.

Operator

We'll go next to Jeetil Patel with Deutsche Bank.

Jeetil Patel - Deutsche Bank AG

I guess first one is, I guess historically, if you look at the Publishing division or games like Call of Duty, they've always made money on the upfront software versus the backend and kind of will claim -- determine as other revenue. I'm curious, as you look at Black Ops, what do you think that mix is if you look at the life cycle of the game, what the mix of the upfront software versus the backend other services in revenue would be as you look at that particular product cycle or service offering that you're looking at for the next 12 to 18 to 24 months?

Thomas Tippl

As Bobby mentioned on the call, we only have the tail of these products is getting fatter and that because we're getting better at providing additional content and services behind following those large retail releases. And as consumer appetite for that continues to increase, we continue to increase our capability around providing that content and providing those services favorable take that the way to a whole new level with Black Ops. So I would not be surprised that Black Ops follow on revenue is going to be also setting a new record in terms of percentage of total revenues for the franchise.

Brian Sozzi

So let's just say it's kind of 10% of the overall value of the product or service that's available on that Bakken or 15% or anyway to kind of give us a rough idea? And then second, you grew your operating profits as a company about 34% in the first three quarters of the year pretty impressive, just curious, do you guys look at any sort of target operating profit growth of the business over the next several years? Is it in line with industry better than the industry kind of just a rough idea of how you look at profit improvement on a year-on-year basis?

Thomas Tippl

Well, we have a track record of outperforming the industry in terms of growth and margin expansion and shareholder return and cash flow generation. And I think we want to continue to do that. So for us the bar needs to be set ahead of that industries overall, I think we are at the unique position, where we have the assets with an edge of the brands or the development talents or the infrastructure or the knowledge around online services or the global reach being the only web some published and the successful business in places like China that are growing very fast. So I think it's expectation for us to perform ahead of the industry as an average. With regards to your first question, we're getting to the details of what percentage we expect to come from fall on revenues. The percentage is growing, I think we will continue to talk to you all about the progress we're making on the digital revenue side. So as we progress with that continental services, we will give you those numbers and then you'll see how much progress we're making.

Jeetil Patel - Deutsche Bank AG

How much did you do on Modern Warfare 2?

Thomas Tippl

How much did we do on Modern Warfare 2? Well, our Modern Warfare 2...

Jeetil Patel - Deutsche Bank AG

In terms of other revenue as opposed to the international sale?

Thomas Tippl

We don't break out the sale of individual Map Packs. But we grew the sales on Modern Warfare 2. First, as relative. Second, Map Pack over what we pay for the prior year with World of War. So there's growth there. It's not condition growth. So I think you've got a little bit that much detail.

Operator

We'll go next to Edward Williams with BMO Capital Markets.

Edward Williams - BMO Capital Markets U.S.

I'll ask another question on the same sort of topic, which is can you give us some colors to the percentage of the console players that have purchased say Modern Warfare 2 that are playing online now? And give us a little bit color as to how that may have trended over throughout the year kind of on the launch of Modern Warfare 2 and then leaving in to the release of Black Ops?

Thomas Tippl

Yes, it's very interesting, because when we look at those trends, we see a lot of similarities with what's happening at Blizzard. And you'll see concurrency going up when they will come up with new content or when organize throughout new lands like double XP weekend, et cetera. And we actually also apply and re-applying a lot of the learning that these are the generally that whether many years of running Modern Warfare 2 successfully to our Call of Duty audience and make sure that product continues to leave out to the expectations, create loyalty make a product very sticky and enhance our confidence in service offering to stay ahead of competition. So the concurrence is not always the same. It's usually peak when we come the new content obviously is very high within the first couple of months after launch, and that's why we try to then come back with new comp and see no later than totally within three months or so of the launch of the initial products. And I think we have still a big opportunity to do a better job there and better satisfy players' demand in exciting new content, new ways to play and new services that we'll talk to you about in the future.

Edward Williams - BMO Capital Markets U.S.

If I could with Mike, if you could comment a little bit about with World of Warcraft and 12 million subscribers, can you give us a little color as to where they are on a geographic basis? How much pick up did you get qualitatively or if not quantitatively out of China, which went live? And then also how should we take about Cataclysm relative to the expansion pack? And what the rollout maybe as far as China is concerned?

Michael Morhaime

So for the first part of the question competitive reasons, we don't give out specific data on subscribership by region. I can say we're very pleased with the health of the World of Warcraft business. And certainly, the launch of rock, in China was major driver in reaching 12 million subscribers. So we feel like we have a lot of momentum heading into the launch of Cataclysm. We think that this expansion is uniquely positioned compared to our previous expansions to try of replayability especially in the old world. And also, we believe that some of these changes provide a much better, new user experience for new players so we hope that, that transition into a higher attention when people try out the game. Historically, with previous expansions, we have seen that bring back players that may have taken a break from the game, and it's also been a big driver in outreach to reaching out to new players. So we're very excited.

Operator

We'll take our final question from Doug Creutz with Cowen and Company.

Douglas Creutz - Cowen and Company, LLC

Mike, I was wondering if you could give some color and how the StarCraft II revenues are split between the packaged goods and digital thus far? And whether aside from the two expansion packages, do you have any other plans for driving additional revenues from StarCraft?

Michael Morhaime

So we don't break out digital versus retail. I can say that the global retail launches StarCraft II exceeded all of our expectations. The success of the initial launch and the continuing growth of the StarCraft II community sets us up well to generate future revenue from expansions. We've already announced two of those. Some of the drivers we think that will help contribute to the growth of the community are the success of East Ports, and we're already seeing gamers transition from StarCraft I to StarCraft II. We've got good momentum in that area. There's a lot that we have to look forward to with respect to StarCraft II franchise. Of course, we haven't launched in China yet. We have alternative business models in Southeast Asia and Latin America. That will be coming online. And later on, we still plan to launch the Mach marketplace, which is sort of like our version of the apps store for the StarCraft platform. We have very powerful map editor with StarCraft II that is so powerful really can create your own games within the StarCraft platform. We demonstrated some of the potential and power of the editor at BlizzCon recently. But we are intent with muck marketplace is really to provide some incentive and reward for players to create their own user-generated content. The top map creators will be rewarded with a share of the revenues that is generated. We think this will drive better content, add additional replayability and ultimately, grow the size of the player base.

Robert Kotick

So thank you all for joining us today. We're obviously excited about two of the biggest launches in the history of interactive entertainment and another year of record profitability. And we look forward to sharing our results for the fourth quarter with you some time in late 2010 are your February. Thank you.

Kristin Southey

Thanks, everyone.

Operator

Ladies and gentlemen, that does conclude today's conference call. We would like to thank you all for your participation.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Activision Blizzard CEO Discusses Q3 2010 Results - Earnings Call Transcript
This Transcript
All Transcripts