Watch out! The era of eSports is coming. The pioneer in this category is Activision Blizzard, Inc. (NASDAQ:ATVI), the video game publisher that is set to launch the first global eSports league early next year.
The league, Overwatch League (or OWL), will feature 12 teams from across the world. Teams have sold for about $20 million, and the buyers have been big names, like New England Patriots’ owner Robert Kraft. ATVI’s OWL has also attracted some big-time, unprecedented sponsorship deals with likes of HP Inc (NYSE:HPQ) and Intel Corporation (NASDAQ:INTC).
If you step back and think about it, that is pretty wild.
Just two years ago, the idea of a global video game league that looks, acts and sounds like the NBA or NFL would have sounded absurd. We are now less than two months away from such a league launching, and not only does it not sound absurd, but it actually makes a ton of sense considering cord-cutting trends, the shift towards over-the-top media consumption, and the explosion in video game popularity.
That means buy ATVI stock, right?
Not right.
I’m a huge believer in the nascent business of eSports becoming a huge, multibillion-dollar enterprise for Activision. But I’m not a buyer of ATVI stock at these levels.
Here’s why.
OWL Excitement Is Huge
Everyone is all excited about the launch of OWL, and with good reason.
ESPN is fading out because media consumption is going over the top. Just look at ESPN’s viewership numbers. Granted, Walt Disney Co (NYSE:DIS) is launching ESPN Plus which will likely reinvigorate ESPN’s viewership numbers among traditional sports fans, but there is still a hole out there for casual sports fans who love video games.
ESports could fill that hole.
In fact, it already is filling that hole. Just look at the trends. The global eSports audience grew by 37% last year. Video-game-streaming platform Twitch fetched a near $1-billion takeover price from Amazon.com, Inc. (NASDAQ:AMZN). ESPN is dedicating more and more airtime to eSports.
ATVI’s OWL is the first big push to legitimize eSports as something on par with traditional professional sports leagues. Traditional sports leagues rake in anywhere between $4 billion and $13 billion in revenue per year. Consequently, the pathway for OWL to a multibillion-dollar business is actually quite clear.
But Expectations Are Too Big for ATVI Stock
But in the stock market, it isn’t about how much you grow; it’s about how much you grow relative to what people think you will grow. It’s all about expectations and what is “priced” into a stock. Investors bid up a stock based on certain expectations for the future. If reality surpasses those expectations, the stock is a winner. If reality doesn’t surpass those expectations, the stock is a loser.
Right now, there is simply too much priced into ATVI stock to make it an attractive investment option at these levels.
ATVI stock trades at 28.3x this year’s earnings estimate. Earnings are expected to grow roughly 13.6% per year from that base over the next two years. That gives ATVI stock a price-to-earnings/growth (PEG) ratio of about 2.1.
That is too rich. Electronic Arts Inc. (NASDAQ:EA) trades at 26.1x this year’s earnings estimate for 15.6% growth. Take-Two Interactive Software Inc (NASDAQ:TTWO) trades at 38.6x this year’s earnings estimate for 22.3% growth. Both of those stocks have PEG ratios of roughly 1.7.
Clearly, at a PEG of 2.1, much more is priced into ATVI stock than both EA and TTWO.
Does that make sense? Maybe. ATVI is most levered to benefit from eSports. But what it really means is that investors have super big expectations heading into the OWL launch.
That isn’t good because OWL is the first of its kind. Because of that, the risk of things not running smoothly is fairly high. Considering the stock is trading at a significant premium to its historical standards, such road bumps could cause material weakness in shares.
Bottom Line on ATVI Stock
Everyone is buying up ATVI stock ahead of the OWL launch. That puts a lot of strain on OWL to perform exceptionally well and skews the risk-reward profile of the stock to the downside. Any hiccups early on in OWL will result in the ATVI stock price falling.
That is why I’m not buying here.
But once the OWL launch is in the rearview mirror and expectations have moderated, the risk-reward profile on ATVI stock will skew back to the upside. That will be the time to load up.
As of this writing, Luke Lango was long TTWO, DIS, AMZN, and INTC.
