Activision Marginally Beats - Analyst Blog

A leading publisher of online, personal computers, console, handheld and mobile games, Activision Blizzard Inc. (ATVI) reported second-quarter earnings of 5 cents per share, which beat the Zacks Consensus Estimate by 2 cents but was down a penny per share year over year.

The decline can primarily be credited to declining revenue growth and contraction in operating margins. Fewer releases and continued weakness at retail led to the quarter’s weak results. Earnings include stock-based compensation expenses but exclude one-time items.

Revenues

Revenues on a non-GAAP basis (excluding net effect from deferral) decreased 14.7% year over year to $683.0 million in the second quarter.

Lower revenues were attributable to the 29.0% plunge in sales of consoles from the year-earlier quarter. Sales of handheld games declined 40.0% year over year and distribution revenues were down 19.0% year over year in the quarter. These were partially offset by the sales of digital online channels, which grew more than 20.0% year over year.

Activision published four games during the quarter and two Call of Duty map packs. During the second quarter of 2010, Call of Duty: Modern Warfare 2 game held the number one position in the U.S. in the action category, according to research firm NPD Group.

In June this year, Activision released a map pack for Call of Duty: Modern Warfare 2 Resurgence Pack for Microsoft Corp.’s (MSFT) Xbox Live online entertainment network. This pack was also available for Sony Corp.’s (SNE) PlayStation 3 and personal computers. Contracts with large companies have enabled Activision to reach the 20 million mark for the Call of Duty game in the second quarter. We expect Call of Duty to drive revenues for the company in the second half of the year.

Margins

Total costs and expenses on a non-GAAP basis were $582.0 million in the second quarter, down 9.8% year over year from $645.0 million in the prior-year quarter. This was primarily driven by lower general and administrative costs in the quarter.

Operating margin decreased 180 basis points to 12.3% in the second quarter. Weak revenue growth fully offset the year-over-year improvement in operating expenses.

Balance Sheet

As of June 30, 2010, Activision had no debt on its balance sheet. Cash and short-term investments were $2.8 billion as compared with $3.3 billion at the end of March 31, 2010.

Activision repurchased approximately 31 million shares worth $334.0 million during the quarter, under its $1.0 billion authorization. Activision also paid its first dividend of 15 cents during the quarter.

Outlook

For the third quarter of 2010, Activision forecasts non-GAAP net revenue of $725.0 million and earnings of 8 cents per share. For full-year 2010, Activision maintained its non-GAAP revenue guidance of $4.4 billion and earnings per share of 72 cents, primarily based on strong sales growth from Call of Duty.

Activision is well positioned to achieve significant top-line growth for the upcoming holiday season based on a strong slate of new releases. This is evident from its recently published title StarCraft II: Wings of Liberty, which according Blizzard Entertainment estimates sold more than 1 million units within the 24 hours of its release. Activision postponed the release True Crime: Hong Kong to 2011.

Activision remains optimistic on the upcoming release of Blizzard Entertainment’s World of Warcraft: Cataclysm in the third quarter and its premier game Call of Duty: Black Ops, which is scheduled to release on November 9, 2010.

Moreover, the company has a number of releases such as Guitar Hero: Warriors of Rock, D J Hero, Tony Hawk: SHRED, Spider-man: Shattered Dimensions, GoldenEye 007 and Bakugan in the second half of the year.

Recommendation

We maintain a Neutral rating on a long-term basis (6-12 months), primarily based on the belief that Activision remains much too dependent on the Call of Duty franchisee for a strong 2010 performance.

Although Call of Duty: Black Ops is expected to boost Activision’s revenues post launch, we expect stiff competition from Electronic Arts Inc. (ERTS) title Medal of Honor, which is scheduled to release in the month of October.

Currently, Activision has a Zacks #4 Rank, which implies Sell rating on a short-term basis (1-3 months).
 
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