To be blunt, I’m not a fan of Activision Blizzard, Inc. (NASDAQ:ATVI) stock — and I haven’t been for some time. The ATVI stock price looks awfully high to me for a company that simply hasn’t posted much growth in net income this decade, 2016 aside.
Earnings per share growth looks more impressive, but much of that improvement came from a massive share repurchase from former majority owner Vivendi SA (ADR) (OTCMKTS:VIVHY) back in 2013.
That repurchase turned out to be a fantastic deal for ATVI shareholders, though it didn’t necessarily look that way at the time. The ATVI stock price still was dogged by fears of declines in the key World of Warcraft game — and those fears proved correct, at least in the short term. ATVI net income actually declined between 2010 and 2015. After a big spike last year, guidance suggests basically zero profit growth in 2017.
That lack of growth is why I’ve been bearish on ATVI stock. In October, I called it one of the 10 most expensive stocks in the S&P 500 and, just last month, I argued that the ATVI stock price simply was too high. ATVI has pulled back modestly… but it still looks expensive. And with both WoW and Call of Duty potentially showing their age, growth still seems likely to be difficult going forward.
But looking backward is a dangerous way to value a stock — and I’ll admit Activision Blizzard has some intriguing growth drivers. I’m skeptical those drivers are enough to propel ATVI stock higher, but even investors leaning bearish on the stock need to keep them in mind.
1. eGaming
Perhaps I’m showing my age, but, as a consumer, eSports seems absolutely bizarre to me. But as a business, it’s certainly an intriguing opportunity for Activision Blizzard.
On this site in October, Luke Lango detailed the eSports opportunity for Activision’s OWL (Overwatch League). Electronic Arts Inc. (NASDAQ:EA), with its stable of sports franchises, is looking to enter the space as well. Smaller rival Take-Two Interactive Software, Inc. (NASDAQ:TTWO) is planning a league around its NBA 2K game. Meanwhile, Amazon.com, Inc. (NASDAQ:AMZN) paid nearly $1 billion for Twitch in 2014, a site through which viewers can watch video game play.
There’s value here.
Blizzard reportedly asked for $20 million for franchise fees in OWL. The concept easily could be expanded to other games such as Call of Duty. And, given the increasingly competitive nature of gaming, the high viewership numbers for Twitch and other concepts, I don’t believe eSports is a fad, as unappealing as I find it as a consumer.
That said, this is a company (Activision Blizzard) with a $46 billion market cap. Unless eSports grows to something akin to the fifth or sixth major sport, I’m skeptical it moves the needle all that much. But that is possible — and international opportunities (read Asia) could drive further value creation. I wonder whether investors are pricing in too much value from eSports into the ATVI stock price, but there no doubt is some value.
2. King Digital
It’s easy to forget what a big — and controversial — deal Activison’s acquisition of King really was. At the time, Activision was paying $5 billion net of cash — about a quarter of its market capitalization — on what looked to be a declining business whose Candy Crush franchise had peaked. Brian Nichols wisely called it a steal on this site at the time. But many disagreed, and the fact that King was willing to sell below its IPO price and at a large discount to all-time highs showed what King management itself thought of the business.
Activision has done a great job, however. King appears to have returned to growth. And the mobile gaming space itself has performed well. Zynga Inc (NASDAQ:ZNGA) shares are up 50% so far this year. Smaller Glu Mobile Inc. (NASDAQ:GLUU) has more than doubled. An industry that looked to be in widespread decline — at the time, Zynga was struggling to replace its Mafia Wars and FarmVille franchises and end its reliance on Facebook Inc (NASDAQ:FB) — suddenly looks like a growth sector.
That’s good news for ATVI if that trend continues. I remain skeptical here, too, regarding the long-term health of mobile gaming. But if I’m wrong, King can drive a few more points of upside for the ATVI stock price.
3. Digital Delivery
Observers long have forecast the death of the video game disc, expecting a decline parallel to those of DVDs and CDs. And it appears that digital delivery is accelerating. Piper Jaffray’s Michael Olson pointed out last month that downloads should drive 40% of console game sales this year — a figure that will only increase going forward.
As Olson pointed out, that’s good news for game makers, who make an extra $10 per game or thereabouts through digital channels. And it’s bad news for GameStop Corp. (NYSE:GME), which doesn’t need any more bad news. For ATVI, digital delivery should improve margins — and eventual play through the cloud could help even more.
What It All Means for the ATVI Stock Price
If you add up the impact of the three potential drivers here, there’s room to see Activision Blizzard’s growth accelerating. But there’s also concern in the stock’s valuation. At 24 times forward earnings per share, a good amount of growth is priced in. And weakness in core franchises, notably WoW, could offset some of the revenue and margin improvement.
I understand the optimism toward ATVI stock, but I can’t quite justify the ATVI stock price. However, if the growth drivers I outlined above are greater than I realize, I may very well be wrong.
As of this writing, Vince Martin has no positions in any securities mentioned.
