Activision Blizzard (NASDAQ: ATVI) had one of its most polarizing quarters in memory during the fourth quarter of 2018, reporting record results but also a major restructuring of the company's operations. In all, about 775 people, or 8% of the workforce, will be laid off as the company tries to adapt to a changing gaming environment. At the same time, Activision Blizzard is putting more development resources into some of its biggest games.
As you might expect, Fortnite's success is driving a lot of the changes for Activision and competitors like Electronic Arts (NASDAQ: EA). Here's what you need to know about the fourth quarter of 2018 and management's view about 2019.
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Activision Blizzard: The raw numbers
|Metric||Q4 2018||Q4 2017||Year-Over-Year Change|
|Revenue||$2.38 billion||$2.04 billion||16.5%|
|GAAP operating margin||29%||11%||+1800 basis points|
Data Source: Activision Blizzard Q4 2018 earnings release.
What happened with Activision Blizzard this quarter?
The numbers for the fourth quarter were solid all around and for the most part beat the guidance management had laid out three months ago. But 2019 brings about a lot of questions.
- The earnings-per-share figures look like a huge jump from a loss to a profit, but the 2017 numbers include a loss related to the tax changes passed in late 2017. On a non-GAAP basis, earnings were $0.90 per share in Q4 2018, up from $0.49 a year ago.
- The closely watched engagement metric was up at Activision and King while falling for Blizzard. Activision's monthly active users (MAUs) rose 7 million sequentially to 53 million people, driven by the Call of Duty: Black Ops 4 launch. King MAUs were up 6 million to 268 million on Candy Crush Friends Saga's launch. Blizzard MAUs were down 2 million to 35 million as World of Warcraft play declined.
- Net bookings for the quarter were $2.84 billion, up from $2.64 billion a year ago but below management's $3.05 billion guidance.
- Free cash flow for 2018 was $1.66 billion, down from $2.06 billion a year ago.
Guidance for 2019 is where we see the real impact of Fortnite and other battle royale games like EA's newly launched Apex Legends. To make matters worse, Activision Blizzard doesn't have a great pipeline of games for 2019, so it's going to be a down year across the board.
- Revenue is expected to be $6.03 billion in 2019, compared to $7.50 million in revenue during 2018. First-quarter revenue is expected to be $1.72 billion.
- Earnings per share for the year are expected to be $1.18 on a GAAP basis and $1.85 on a non-GAAP basis. This compares to $2.35 in GAAP earnings per share during 2018 and $2.72 per share in non-GAAP EPS. For the first quarter, GAAP and non-GAAP guidance are for $0.39 and $0.63 per share in earnings, respectively.
The expected decline in revenue and earnings led management to announce 775 job cuts from the company's 9,800-person workforce. The cuts come as part of a reorganization that will see Activision Blizzard put more money into its biggest game titles like Call of Duty, World of Warcraft, and Diablo while cutting down on the development of smaller titles. Management is also expecting to cut back on sales staff and rationalize some back-office functions that overlap between the company's three divisions.
What management had to say
COO Coddy Johnson laid out the problems for Activision Blizzard during the company's conference call, saying: "Our 2019 outlook assumes that we will not improve in-game monetization as quickly as we would like. And that it is a transition year where we have less new major content to release than we should."
In-game monetization is what's going to drive growth, so the slow uptake is a bit concerning. And management is also using its slow year of releases to make the organizational changes I highlighted above. All in all, it's going to be a year of change for Activision Blizzard.
The challenges for Activision Blizzard may be bigger than they seem on the surface. In the past year, gamers have trended toward battle royale games that aren't the company's strong suit and seem to be gravitating to a "freemium" price point -- some free and some premium options -- that's been successful in mobile games. But the development of PC and console games is much more costly, and the scale of the games isn't as large as those for mobile devices. That could limit the ability of game makers to make money on in-game content for free games, hurting profitability in the long term.
Activision Blizzard's management has shown it can navigate the changing world of video games. But 2019 will be a transition year for the business, and investors don't yet know if the focus on bigger games will be the right long-term strategy for the company.
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Travis Hoium has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Activision Blizzard. The Motley Fool recommends Electronic Arts. The Motley Fool has a disclosure policy.