Activision Blizzard, Inc. (NASDAQ:ATVI) is up a healthy 76% over the past year. ATVI stock hasn’t been the biggest winner in the sector though. By comparison, Take-Two Interactive Software Inc. (NASDAQ:TTWO) is up 127% over the past year. ATVI stock has clearly outpaced the other big dog, Electronic Arts Inc. (NASDAQ:EA), which is up a lesser 42% over the past year.
What’s led to the boom in gaming stocks, and Activision’s middle of the pack performance within the sector? Activision, like its peers, has enjoyed surging profit margins as the game industry increasingly goes digital. The company’s mobile strategy has led it to new levels of financial success. On the downside, ATVI stock is expensive and World of Warcraft isn’t getting any younger.
Let’s take a closer look:
ATVI Stock Pros
King Back On Top: Activision Blizzard purchased King Digital in 2016 for $5.9 billion. King Digital was struggling at the time, as the company’s momentum had skidded following its initial public offering.
However, Activision has gotten King — and its pivotal Candy Crush Saga game back on track. Candy Crush Saga has recovered its position as the top-grossing American mobile game. King’s monthly average users are still sliding. Their MAU has dropped from 500 million three years ago to just 300 million now. But with improved in-app purchasing rates and the return of in-game advertising, revenues are moving the right way for Activision.
Positive Analyst: Last month, Brandon Ross of BTIG launched coverage on the big three gaming stocks. He rated Take-Two and Activision as buys, while pegging EA stock at merely neutral.
The analyst called out ATVI stock in particular as the best of the bunch. He slapped an $80 price target on it, suggesting that the sector has transformed gaming and that Activision has the best approach of the bunch for making money off mobile gaming.
Overwatch League: Activision is creating an eSports league for its mega-smash hit game Overwatch. The Overwatch League is set to kick off its first regular season this month and go until June of 2018.
The league currently sports nine American teams, along with one each from China, South Korea, and the United Kingdom. Famous traditional sports icons, including Robert Kraft of the New England Patriots, are investing in the Overwatch League. Chinese internet company NetEase Inc (ADR) (NASDAQ:NTES) owns one of the teams as well. It’s too early to project what it will mean for ATVI stock exactly, but it could be dramatic if the league finds enduring popularity.
ATVI Stock Cons
Digital Sales Growth Will Slow: Activision has benefited greatly over the past few years as a large portion of the gaming market has moved from retail stores to the internet. While retailers such as GameStop Corp. (NYSE:GME) have struggled, the gamemakers have won out. Money that previously went to the middleman-retailer now stays in Activision’s coffers.
However, this trend will slow going forward. Activision already derives 80% of its revenues from digital sources. Thus, there’s not much room for further improvement on this front, removing one of ATVI stock’s previous tailwinds.
Expensive Stock: All of the big three gaming stocks are expensive. Even EA, which has by far performed worst of the three recently, is still selling for 30x earnings.
ATVI stock takes it to the next level though, with its shares selling at 46x trailing earnings. Analysts forecast 15% compounded annual earnings growth over the next five years. Even so, that’s hardly a high enough growth rate to justify such a starting valuation. Additionally, ATVI stock offers a paltry dividend yield of just 0.5%.
World of Warcraft Fading: Activision used to rely on World of Warcraft for the lion’s share of its business. That has faded over the years. World of Warcraft peaked at 12 million subscribers in 2010. It held largely stable around the 10 million-mark for several reasons but then plummeted. By 2015, the count was down to under 6 million. At that point, Activision stopped reported the active user number.
It appears that WoW activity further declined in 2016, however 2017 brought some attempts to stabilize the franchise. On Activision’s last conference call they stated that: “World of Warcraft released a new content update in the quarter, leading to stable Monthly Active Users for the franchise quarter-over-quarter and continued participation in value added services.”
This somewhat vague statement indicates that the user base isn’t declining further at the moment, but revenues are probably stagnant to declining. In any case, WoW still generates a lot of stable high-margin income for Activision. But don’t count on it to last forever. The franchise is 12 years old, and is well into old age in gaming terms.
Verdict on ATVI Stock
The gaming stocks had an amazing 2017. But there’s little reason to expect lightning to strike twice in a row. All three are pricey now, with ATVI stock in particular at a hard to stomach valuation.
Yes, the company has some strong positives too. The mobile business is the best of the three. And the Overwatch League, if it truly takes off and turns into another pro sport, could be a game-changer. But there’s little to indicate that 2018 will be another historic year for ATVI stock. Earnings would really have to explode to back up the current price. Look for a correction to hit before buying the stock.
At the time of this writing, the author owned GME stock and had no positions in any of the other aforementioned securities. You can reach him on Twitter at @irbezek.
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