Activision’s ‘Skylanders’ Game Harvests Big Profits from the Virtual World

Say what you will about the content of products offered by Activision Blizzard (NASDAQ:ATVI), but the world’s biggest video game publisher is good at separating consumers from their money. Its latest gambit might prove that there’s a future outside of digital goods in the gaming business, and retailers should be jumping for joy.

They could use some joy. Video game retail isn’t what it used to be. Much to the chagrin of GameStop (NYSE:GME), Best Buy (NYSE:BBY), Wal-Mart (NYSE:WMT), and the many others who watched as total U.S. video game sales at retail fell steadily from $22 billion in 2008 to $17 billion in 2011. A significant amount of that vanishing revenue has migrated to digital platformsApple‘s (NASDAQ:AAPL) App Store, which offers tons of content for mobile devices, and the lucrative market of social games that’s benefitted Zynga (NASDAQ:ZNGA) and proliferated on Facebook and on smartphones.

Some retailers, including GameStop, are finding that consumers are willing to spend on digital goods at bricks-and-mortar retail locations as well. That business, though, relies on popular services like Activision Blizzard’s Call of Duty Elite subscription service, which in turn relies on the popularity of physical products like Call of Duty: Modern Warfare 3, a game that racked up $1 billion in sales within 16 days of its release in November. Which suggests that there has got to be a way to get people spending on video games in stores again.

Plastic action figures and their virtual counterparts

Enter Activision and Skylanders: Spyro’s Adventure. Released in October 2011, the game is available on every machine under the sun, including home gaming devices like Microsoft‘s (NASDAQ:MSFT) Xbox 360 and Sony‘s (NYSE:SNE) PlayStation 3, portables like Nintendo‘s (PINK:NTDOY) Nintendo 3DS, and smartphones like the iPhone. There is even a website and online community to supplement the standalone titles.

Skylanders‘ raison d’être, though, is the assortment of collectible plastic figurines that are sold alongside the game. Kids playing at home place the action figures on a pedestal-like peripheral device synced to their gaming device of choice. An RFID chip inside the toy is recognized by the game and allows the player to use a digitized version of the toy’s character in the game itself.

Thirty-seven figures are currently available, and the line is scheduled to grow in 2012. At $10 per figure (often more due to some figures’ scarcity), a game that was a $60 product on its own suddenly has the potential to be a $500-plus earner. Not to be glib, but the sky is the limit.

The risk of releasing a full product line into a shrinking traditional-games market (as measured, at least, by retail sales revenue) paid off beautifully for Activision at the end of 2011. While the company didn’t reveal an exact dollar amount for how much Skylanders earned during the fourth quarter of 2011, Activision did say that it was the tenth best-selling video game by dollars earned during all of last year, and it was the only game in those ranks that was marketed to children.

Sky-high expectations

The company presented Skylanders in its financials as its “next $1 billion franchise.” Even as the company’s Call of Duty series continues to boom, Skylanders represents promising diversification of its portfolio, and its success should make Activision an even more integral partner for retailers like Best Buy and GameStop. It’s a game that thrives on the sales of multiple physical goods.

Activision has been in this position before, though, with a strong retail product fueling a billion-dollar brand. In that case, the company so badly flooded the market with product that it destroyed the entire market segment: Guitar Hero was the first franchise to produce a title that earned $1 billion on its own in video game history, in part because people needed to buy specially equipped controllers—plastic “instruments” designed to mimic the real things—to play the game. It was another case of a $60 game becoming a potential earner of $300 or more. Activision’s aggressive marketing of the brand, declining interest in the product, and saturation of the market with new titles forced it to cancel the series in 2011, though.

Skylanders has performed impressively and has tons of room to grow. Investors and retailers alike should keep their fingers crossed that Activision has learned its lessons.

As of this writing, Anthony John Agnello did not own a position in any of the stocks named here. Follow him on Twitter at @ajohnagnello and become a fan of InvestorPlace on Facebook.


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