Activision Strikes Back

A little more than a year ago, Activison’s (ATVI) stock started to massively depreciate in value and managed to find a bottom only at the beginning of February. Currently, the company’s stock is slowly but surely recovering from that fall. Based on our findings, it has a chance to create additional shareholder value in the foreseeable future. Our analysis shows that Activision’s stock is undervalued in comparison to its peers from the gaming industry and we are optimistic about the company’s future.

The latest earnings report was released back in August and itshowedthat Activision managed to beat its expectations, even though the net bookings were down Y/Y. A number of other contributors alreadycoveredthe company’s recent development and its strategy, so we decided to take a different approach and compare Activision to its peers in order to find out how the competitive landscape looks like and see whether it is worth to invest in the company’s stock at the current market price, as it plans to release its Q3 earnings next week.

Valuation

To find out whether Activision is undervalued or not, we compared the company to its major peers. In addition to Electronic Arts (EA), Take-Two (TTWO) and Ubisoft (OTCPK:UBSFF) that are gaming publishers themselves, we have also added Nintendo (OTCPK:NTDOY) and Sony (SNE) to the list of direct competitors for a couple of reasons. First of all, while Nintendo is a hardware manufacturer and a creator of a highly popular Switch console, it also develops lots of content for its platforms and has one of the most famous gaming IPs in its portfolio. As for the Sony, the company’s PlayStation business generates massive amount of profits every year and its gaming division is the best performing division inside the company along with the electronics business in terms of sales. Also, we have decided to take Microsoft (MSFT) out of the comparison simply due to the fact that the company has a wide variety of businesses in its portfolio and gaming revenues that include the sales of Xbox consoles are small in comparison to sales from its other businesses.

The 1-year chart below compares stock performances of the companies that were mentioned above and as we can see, all of them took a hit at the beginning of 2019, but everyone except for Activision and Ubisoft managed to get out of the red. While Ubisoft’s poor performance could be contributed to the company’s inability to achieve its fiscal year targets, the recent successful releases of Activision’s major titles could be considered a turning point for the company and its stock has all the chances to increase in value in the foreseeable future, as we are nearing the holiday season.

Source: Bloomberg

The table below compares Activision to its rivals on an operational level. The company has good profitability metrics, as its operating and net margins are way above the industry’s median, while its return on assets (the metric that shows how profitable the company is relative to its overall assets) of 9.59% is also above the median of 8.63%. With such high percentages, the company’s stock currently trades 20% below its 52-week high, while the industry’s median is only 13% below the 52-week high.

Source: koyfin, gurufocus, Yahoo Finance. The data was collected and the table was created by the author.

As for the valuation metrics, Activision’s EV/EBIT, EV/EBITDA and P/E multiples are relatively close to the industry’s median. A year ago, Activision had a P/E of more than 120x and was trading way above the current price. Based on this information and on the fact that the company’s stock is underperforming to its competitors, while its operational metrics show that the business is more efficient in comparison to others, makes us believe that Activision’s stock is undervalued at the current market price.

Source: koyfin, gurufocus, Yahoo Finance. The data was collected and the table was created by the author.

Going forward, there are a couple of catalysts that should help the company to increase its sales and improve the performance of its stock. First of all, Call of Duty Modern Warfare has been released less than a week ago and the first data clearly shows that the game had a much better launch than its predecessor Black Ops 4 in terms of sales. In addition, the game received great ratings from gaming magazines and gaming community and this will help the company to hold the game’s momentum for the upcoming months and be able to successfully monetize it via battle passes. In addition, Activision’s eSports initiatives so far have been successful and while competitive gaming is still a small market, it has a potential to increase in value as the time goes by and account for a large portion of the company’s business in the future.

Obviously there are a couple of risks that are associated with owning Activision’s stock. While S&P 500 marches toward new highs, the geopolitical uncertainty could have a negative effect on the overall market performance. In addition, there is a possibility that the company could fail to deliver on its promises and fails to achieve its fiscal year goals due to the possible poor performance in the upcoming months, even though we believe that it’s unlikely to happen.

Takeaway

While we don’t expect much from the earnings report that will be released next week for Q3, as the period between July and September generally doesn’t bring lots of revenues due to the fact that publishers don’t release a lot of content during that time, the initial successful performance of WoW Classic could help the publisher to achieve its Q3 goals.

Also, we expect the management to shed some light on the performance of Call of Duty Mobile and Call of Duty Modern Warfare during the conference call in order to understand whether the series will be able to maintain its momentum for the upcoming months.

In addition, as we are nearing the holiday season, the overall gaming market will be less saturated, as one of the biggest publishers Ubisoft has delayed the release of its major triple-A titles to next year and it will be easier for other gaming companies, including Activision, to sell more games and bring more revenues.

Overall, based on the information that was provided above, we believe that Activision has a much better potential to increase in value than before and its stock is undervalued in comparison to its peers.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure:

Disclosure: Blacksquare Capital and/or Bohdan Kucheriavyi are not financial/investment advisers, brokers, or dealers. They are solely sharing their personal experience and opinions; therefore, all strategies, tips, suggestions, and recommendations shared are solely for informational purposes. There are risks associated with investing in securities. Investing in stocks, bonds, exchange traded funds, mutual funds, and money market funds involve risk of loss. Loss of principal is possible. Some high risk investments may use leverage, which will accentuate gains & losses. Foreign investing involves special risks, including a greater volatility and political, economic and currency risks and differences in accounting methods. A security’s or a firm’s past investment performance is not a guarantee or predictor of future investment performance.

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