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Activision Blizzard - good quarter, but guidance cautious

Nicholas Hyett | 8 November 2019 | A A A
Activision Blizzard - good quarter, but guidance cautious

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Activision Blizzard Inc Com Stk USD0.0000

Sell: 53.28 | Buy: 53.29 | Change 0.55 (1.04%)
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Third quarter revenues of $1.3bn were 15.2% behind last year, but still ahead of management expectations. Underlying earnings per share of $0.38 were also ahead of previous guidance.

However, guidance for the final quarter of the year was below what some analysts has hoped for, and shares fell 2.3% in afterhours trading.

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Our View

It wasn't a great start to the year for Activision, what with losing its CEO to Netflix and a publishing agreement with developer Bungie coming to a premature end. However, we think there's still long term potential.

Global gaming spend is expected to hit $152bn in 2019. And with 2.3bn gamers worldwide, it's a very attractive market. Activision's Call of Duty, World of Warcraft, and Candy Crush are among the most successful gaming franchises going and accounted for around $4.4bn of revenue in 2018.

We particularly like the mix of console, PC and mobile gaming. In a rapidly changing industry the group has fingers in every pie and recent innovations like the launch of the Call of Duty: Mobile and various esports leagues have seen the group make the most of its varied expertise. Profit growth has averaged 8.2% a year since 2008, but that's being ploughed back into the business for now - with a negligible dividend yield of 0.7%.

Unlike some rivals, Activision Blizzard owns its most powerful brands outright, so it doesn't have to share success with licence holders. The group's looking to make the most of that through the development of esports. esports see professional gamers compete live, with fans watching on TV, online or in stadiums. Audiences have been growing - up 13.8% last year.

Activision's looking to capitalise on Call of Duty's position as the world's most popular console game, and 100m downloads of the mobile version in the first month suggests it's doing a reasonable job. A successful league based on the game is something of a Holy Grail, but it's still early days on that front. However, Activision's Overwatch League is now in its second season with viewership up 18% year-on-year. 2018's grand finals attracted millions of online viewers, 70% of whom fall in the 18-34 year old age bracket.

Millennials are a difficult group for marketing teams to reach, since they consume less traditional media than older generations. That makes esports attractive to advertisers, and advertising revenue can be high margin.

A possible concern is in-game purchases, which have attracted some very negative press. Some see 'loot-boxes', where players pay for a randomly generated in-game benefit, as a gateway to gambling for children, and regulators have started to take note. In-game sales account for around $800m of revenue a quarter, so negative regulatory moves here would be far from welcome. Fortunately Activision is less exposed than some rivals, and its biggest titles target adults in any case.

With several new releases showing promising signs, next quarter's results will be ones to watch. We'll be particularly interested to see what the group can make of its huge Call of Duty: Mobile audience. Having increased investment behind its lead franchises, rather than spreading itself thin, the extra money needs to pay off. We think it's the right decision though, since ultimately it's the blockbuster names that justify a not insignificant 22.2 times PE ratio.

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Third quarter results

Activision Blizzard's monthly active users (MAUs) slipped 3.4% compared to a quarter earlier to 316m, with the fall driven by lower activity in the King mobile gaming division and a small decline in Activision users. However, new launches following the end of the quarter, are said to be performing well and Blizzard MAUs grew quarter-on-quarter

Activision launched Call of Duty: Mobile at the beginning of October, attracting 100m downloads in the first month and topping the download charts in over 150 countries. Call of Duty: Modern Warfare launched towards the end of October, performing significantly better than Call of Duty: Blacks Ops 4 last year which itself continues to do well.

Growth in MAUs at Blizzard was driven by World of Warcraft Classic, which drove the biggest quarterly increase in subscription revenues in the history of the franchise. The second season of the Overwatch League concluded in September, with average audiences across the season growing 18% year-on-year.

Despite the decline in overall King MAUs the Candy Crush franchise continued to grow its reach during the year. Advertising continued to grow profitably.

Quarterly free cash flow rose 27% year-on-year to $275m, with net cash at the end of the quarter rising 45.8% to $2.3bn.

Fourth quarter revenues are expected to hit $1.8bn, with underlying earnings per share of $0.43.

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