Activision Blizzard: Positioned To Capitalize On Gaming Trend
Summary
- The lockdown is leading to an increase in video game sales. Disruptions to the industry, including eSports likely to be minimal.
- Activision is poised to capitalize on this situation due to its presence in eSports, strong franchises, and its availability on all platforms (PC, console, and mobile).
- Valuation is a bit expensive but, due to the tailwinds, is still a long-term buy.
As I've mentioned in my previous article, the current pandemic has changed the way we work and play. Whether or not these changes will be long-lasting would depend on certain factors and remains to be seen. However, the pandemic has also accelerated previous trends that were already in motion. One such acceleration of a trend I see happening is in the realm of gaming and eSports. A company that is poised to do well due to this trend is Activision Blizzard (NASDAQ:ATVI).
I've written about Activision Blizzard in the past, and I believe despite the quarantine, my thesis remains largely intact. The company is one of the world's largest video game companies with popular franchises in the PC, console, and mobile gaming markets. The company is largely made up of three divisions, Activision, Blizzard, and King. Given the lockdown, video games are more popular than ever, and Activision Blizzard is in a unique position to capitalize on this due to 1) its presence in eSports 2) its strong franchises, and 3) having games available on all platforms (PC, console, and mobile).
eSports likely to continue its growth despite COVID-19
As I've mentioned in my previous article, eSports is growing in popularity and will largely continue to grow in polarity despite COVID-19. Activision, right now, owns two of the most popular e-Sports franchises, Call of Duty (or "CoD") and Overwatch. Call of Duty, which is right now in its "Modern Warfare" iteration, is unique among the major eSports franchises as it is the only one played on a console despite it being available for PC as well. In fact, Modern Warfare was revolutionary for allowing PC and console gamers to play cross-platform. Being console-enabled allows CoD to reach a larger market than a pure PC game as it is estimated that there are 102 million PlayStations and 47 million Xbox consoles.
In the meantime, Blizzard's Overwatch has been steadily gaining ground on its competitors when it comes to viewership numbers for eSports. Last year, Overwatch League Grand Finals' number of viewers grew by 16% on average from the 2018 to 2019 season. For the 2020 season, Overwatch is moving towards a "home-and-away" format.
In simple terms, Activision Blizzard's eSports games are moving from a large central venue where all the games are held to multiple venues in different cities. This shift was months in the making as Activision Blizzard had to build the necessary broadcast infrastructure in order to put this in place. Although this shift was planned months in advance, this infrastructure could help the company in terms of hosting events post-lockdown.
Even during a Phase 2 scenario of the economy re-opening, air travel could still be largely restricted and social distancing guidelines could prevent the holding of mass events and large gatherings of more than 50 people. Smaller local events may be the immediate future. Activision Blizzard would be able to hold multiple events of less than 50 people in multiple cities at the same time. Since the events are in multiple cities, teams won't need to fly into a central location. The company has put the necessary infrastructure in place to host such events.
Activision Blizzard's franchises remain strong
Activision Blizzard has some of the most popular games in the industry. In order for the company to see continued success moving forward, it needs to ensure that it preserves those brands by producing high-quality games. Unfortunately, the last few years have seen mixed results for the company.
Activision's flagship franchise Call of Duty re-entered the popular battle royale genre (its 2nd attempt) with Call of Duty Warzone released this past March. The game has had a mostly positive reception thus far. Warzone has a few twists to the genre that keeps it fresh such as an inventive re-spawn mechanism and health/weapons mechanism. It's a perfectly competent and polished battle royale that amalgamates all the best features of other games in the genre and mixes in Call of Duty map design and feel. However, I don't think Warzone will unseat Fortnite as the battle royale king as Activision is a little too late to the party. Still, at 50 million downloads, it is now comparable to Apex Legends in popularity and is a successful title in its own right. As a defensive move makes sense for the company to protect its CoD player base by ensuring they have a battle royal option.
On the Blizzard front, things aren't as rosy. The Warcraft Reforged launch was a disaster mostly due to poor expectations management. However, Blizzard has a deep reserve of goodwill and brand equity. If you remember last year, the company suffered some controversy due to the announcement of Diablo Mobile at Blizzcon. That negativity is all but gone now with the proper announcement of Diablo 4. That game along with Overwatch 2 ensures a healthy pipeline for the future.
Finally, on the mobile front, Candy Crush remains one of the most popular iOS (AAPL) games despite being launched years ago. The game is targeted toward the casual audience who now, thanks to the lockdown, have limited options for entertainment. Mobile gaming has increased by 24% since the lockdown, and Candy Crush is among the games to take advantage of this.
Mobile games revenue during the lockdown
Of course, no investment is without risk and there are two major ones I see with Activision Blizzard. The first risk is that the company's main franchises are relatively old. The first CoD was released 17 years ago, World of Warcraft has been out since 2004, and even Candy Crush is nearing a decade old. This isn't necessarily a bad thing as certain things in entertainment can be considered timeless (think Star Wars (DIS), for example). What this does mean though is that the company needs to continuously think of ways to "refresh" its franchises with new features and gameplay mechanics to prevent it from getting stale. I think the company is up to the task as evidenced by CoD Warzone. The other risk is that, in order to continue growing, the company would need to start developing new franchises. Sekiro released March 2019 is a good start, but I would really like to see the company accelerating its development of future franchises.
Valuation
In terms of valuation, the company is trading at a 33x P/E 2019 GAAP earnings. I believe though that this premium is well deserved given the company's strong brand, exposure in eSports, and a wide range of products (Activision mobile has top brands in mobile, console, and PC). The company has roughly $5.9 billion in cash against a long-term debt of $2.7 billion giving a net-cash position. Having a net cash position is one of my requirements for a long-term hold.
Looking at the revenue growth rate, the company has been growing at a CAGR of 6.7%. EPS growth rate and cash flow growth rate have a CAGR of 3.8% and 8.0% respectively. Note that since video games are a somewhat cyclical industry driven by major game releases, I used the 5-year average to calculate the CAGR. Given the tailwinds discussed above, I am assuming the company can hit $1.97 billion in earnings (which is 2018 earnings of $1.85 multiplied by 1+ 6.7% growth rate). With 771 million shares outstanding that give us an EPS of 2.55. At a P/E ratio of 35x, I am setting a price target of $89.5. At the current price of $65, this represents a 35% upside.
Author calculations based on financials
The company has risen by 43% since my recommendation last year and based on my analysis, the long-term thesis still remains intact. In fact, the lockdown is poised to provide a tailwind boost to the gaming industry and Activision Blizzard. I believe a P/E ratio of 35x is reasonable for the company given the tailwinds and this P/E multiple isn't too far from the company's historical average P/E. The company is still a solid buy.
This article was written by
Analyst’s Disclosure: I am/we are long ATVI. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Caveat emptor! (Buyer beware.) Please do your own proper due diligence on any stock directly or indirectly mentioned in this article. You probably should seek advice from a broker or financial adviser before making any investment decisions. I don't know you or your specific circumstances, therefore, your tolerance and suitability to take risk may differ. This article should be considered general information, and not relied on as a formal investment recommendation.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.
Recommended For You
Comments (8)
Still, sold all my ATVI on the way up and bought GLUU instead, on the basis of:
- much lower valuation
- Couple of long-tailed revenue games making the core of the revenue, with an interesting pipeline
- extremely easy-to-monitor/predictible revenue (mobile gaming -> inApp & advertising)You might want to include the pure mobile play (e.g. Zynga) in further considerations too. The mobile gaming portion of the cake is getting bigger every year.
I am holding for years but would not buy at current level.