Activision Blizzard (ATVI) slightly beat expectations for 4Q19 results, with typically conservative guidance for 2020 falling a bit below consensus estimates. Interestingly, Jefferies analyst Alex Giaimo noted that ATVI has beaten initial EPS guidance by 15% on average over the last 4 years. Alongside the results, ATVI also increased the dividend paid to shareholders by 11%, signaling confidence in the progress of ongoing restructuring initiatives. As a reminder, the restructuring is focused around efforts to expand key franchises exposure to mobile gaming, esports, digital advertising, and consumer products. Northlake expects the benefits of recent strategic changes to become more apparent in 2020 and beyond, now that the 2019 transition year is behind ATVI. 2020 EPS guidance of $2.35 may end up closer to $2.50-$2.70, implying a target price range of $50-$67.50 at 20x-25x with upside of $70-$80+ as investors begin to look to consensus 2021/2022 EPS of $2.83/$3.34 respectively.

Northlake already sees early evidence that restructuring efforts are paying off for ATVI. Proof of concept for the strategic shift toward prioritizing key franchises to expand audiences and increase engagement has been demonstrated by recent successes for Call of Duty (CoD) and World of Warcraft (WoW). Unit sales and in-game spending for the newest iteration of CoD have been strong, but more importantly the new free-to-play mobile version is now the largest platform for CoD after increasing the total franchise player base on all platforms from 40 million to 100 million players with more growth to come. Furthermore, ATVI just launched the CoD League (CDL) with 12 teams and several sponsors. The CDL should grow quickly given the massive global popularity of the franchise, the continued rise of esports viewership, and the ability to apply best practices learned from the ongoing success of the Overwatch League (OWL). Similarly, ATVI was also able to double the active player base for WoW in the second half of 2019 simply by releasing a remastered version of the original WoW Classic. Together, these successes show the blueprint for ATVI to maximize the value of key franchises; Northlake sees similar opportunities across the entire ATVI catalog.

Looking ahead, the major upcoming releases for ATVI in 2020 likely include Overwatch 2, WoW: Shadowlands, Diablo 4, and mobile title Diablo Immortal. Only Overwatch 2 has an announced release date (May 2020); the others are expected at some point this year along with potential unannounced titles that could help fill the gap left behind by the exit from the Destiny franchise. Overwatch 2 will aim to reengage lapsed players similar to the recent success of WoW: Classic while WoW: Shadowlands looks to build momentum for that franchise. Diablo Immortal will attempt to replicate the early success of CoD: Mobile and help grow the audience for the franchise overall around the same time as Diablo 4 launches for sale.

The rapid growth of digital advertising in the King segment also deserves a mention. ATVI elected to ramp the advertising business slowly and carefully to ensure they were making the right moves for the long term. After slow but steady progress, digital advertising has become a meaningful contributor with long-term upside. ATVI continues to grow the number of advertisers interested along with the types of ads and measurement tools. Additionally, the King segment could release new titles in 2020 to accelerate growth.

Northlake believes ATVI has shown early benefits of the recent restructuring, and expects similar successes in 2020 and beyond. As these benefits flow through to the bottom line, the stock should work toward $70+. The stock is still expensive compared to the overall market, but the potential growth should justify the higher valuation if ATVI can execute on the new strategy. Lastly, the upcoming new console cycle from Microsoft and Sony could prove to be beneficial to gaming stocks as it has in previous cycles.

ATVI is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake’s regulatory filings can be found at www.sec.gov. Steve is portfolio manager and managing partner of Entermedia, long/short equity hedge funds focused on media, entertainment, leisure, communications, and related technologies.