Activision’s March 2010 quarter–very strong

the results

ATVI reported 1Q2010 financial results after the close last Thursday.  Revenues were $714 million vs. company guidance, given on February 2, 2010, of $525 million.  EPS was $.09 vs. guidance of $.02.  Of the $.07 per share difference, $.05 comes from stronger than expected results from Call of Duty: Modern Warfare 2 and Worlds of Warcraft. The remainder comes from deferral into the June quarter of expenses ATVI had thought it would incur during the first three months of the year.

The company bought back 8.5 million shares during the quarter at an average price of $10.84, under its new $1 billion buyback program authorized on Feb 10th.  This buying, by itself, won’t support the stock.  But it does give an indication of what management considers a cheap price to be.

new guidance

The company raised its full-year earnings guidance, which is usually conservative, by $.02/share to $.72.  This is effectively a reduction in eps guidance for the remaining nine months of 2010 by $.03, since 1Q already came in $.05 better than forecast.  The reason?  Recent industry experience is that licensed properties, like Spiderman, Legos or Shrek, which appeal to casual gamers and mainly to children and young adults, are selling more poorly than they traditionally have.

ATVI will doubtless make up the “lost” $.02 through strength in its core businesses, so the company could easily have left its guidance for the rest of the year unchanged.  Lowering it simultaneously emphasizes the extraordinary strength of ATVI’s main franchises and underlines the weakness in the overall retail environment.

the main points of the conference call

Starcraft II: Wings of Liberty will launch on July 27th, in 11 languages on 5 continents.  Retail preorders are already very strong.  Even though the game is in closed beta testing (and therefore not widely available), it is the second-most played PC game, trailing only Warcraft III.  WOL is the first of three installments of SCII, each focused on one of the three races, Terrans, Protoss and Zerg, of SCI.  WOL is the Terran game.  ATVI expects sales of WOL to be enough to produce the first up year for sales of PC games in a decade.

Success of SCII and its eventual development of an equivalent to subscription-based Worlds of Warcraft is a major part of the positive case for ATVI.

–ATVI took great pains to point out that it has had three development studios working on the Call of Duty franchise, not just  Infinity Ward, whose heads have left the company and are now being sued by ATVI.   Sledgehammer, and Treyarch, developer of the next installment of COD, called Black Ops, which will be released late this year are the two others.  The majority of Infinity Ward professionals remain with ATVI, at least for now, and the company is already at work rebuilding staff.

The major competition for Black Ops will be the latest installment of Halo, called Reach, from MSFT.  ATVI expects Black Ops’ sales to outpace Reach’s, which seems a pretty safe bet, considering that Reach is only available for X-Box and Black Ops will have a version for PS3 as well.  By release time, there will probably be 40 million X-Box 360s in Europe and North America, the main markets for this kind of game, plus 32 million PS3s.  Even if we assume half the PS3 owners also have X-Box and all of them buy the X-Box version (decision:  better graphics on PS3 vs. better online with X-Box Live), that still leaves 40% more potential buyers for the ATVI game than MSFT’s.

–ATVI also gave a few details of its 10-year contract with Bungie, the creator of Halo–the main one being that it expects the association to be accretive to margins from the beginning.

The Halo game still belongs to MSFT.  But the studio, its 200 professionals and a new concept already under development, are now ATVI’s. Reason for the Bungie switch?–ATVI’s market power aside, it’s the chance to sell to–and earn royalties from–all those PS3 consoles.

bits and pieces

–Worlds of Warcraft has begun to see increases in its number of subscribers again.  ATVI expects further gains as it launches the Cataclysm expansion pack later this year, overhauls the older areas of the site and gains permission from Beijing to add the Lich King expansion pack in China.

WM2 players have logged 2+ billion hours of use on X-Box Live so far.

ATVI had 1+ million downloads (at $15 each) of its latest COD extra map pack in its first 24 hours of availability.  Another one is planned for the second half.

–The company still doesn’t see mobile as financially attractive enough to commit resources to, despite its fast growth.

my conclusion

The stock, trading at about 13% this year’s earnings and yielding 1.4%, seems cheap to me.  The loss of the Infinity Ward executives could easily turn out to be a tempest in a teapot.  But I think for the stock to advance significantly, WOL has to be a smash hit.  I’m a long-time Starcraft fan, so I think it will be.  But that’s the bet.

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