Activision Blizzard: noise surrounding corporate culture creates opportunity for investors

I am optimistic about Activision Blizzard (ATVI) and I think it has a lot of room for growth. Although there is noise surrounding corporate culture and corporate governance, he remains one of the most popular video game developers.

Investment thesis

Activision Blizzard is one of the world’s largest developers of video games for consoles, primarily Sony’s PlayStation and Microsoft’s Xbox. It also has a massive presence in the mobile gaming and PC space.

The company is fundamentally strong, with a prudently managed balance sheet and excellent cash flow. Activation kept spending low while constantly increasing revenue. The pent-up excess demand due to the increase in customer base provides an additional opportunity for the company to gain market share.

With the arrival of new consoles in the market, video games must be rebuilt to take advantage of their superior processing power. Following the 2020 lockdowns, Activision Blizzard saw its customer base grow as both existing users and new customers embraced the hobby, fueled by stimulus money and extra time spent on the House.

The video game industry expects a compound annual growth rate of 11% through 2026, and Activision Blizzard is improving its corporate governance to attract new talent. The company is a compelling long-term growth player despite concerns about its corporate governance.

Future prospects

Prior to 2016, Activision’s revenue remained relatively stable. In 2016, after the acquisition of King Digital, the company strengthened its presence on mobile gaming platforms. This acquisition has been essential to the success of the company over the past few years. In 2020, smartphone games accounted for nearly 50% of video game revenue globally and have helped Activision maintain its position in the video game market.

The company addressed its plan to cut unnecessary costs in its recent 10T filing, but also said it does not expect to achieve significant savings because “cost reductions in our sales, general and administrative costs should be offset by increased investment in product development.

Despite Activision’s increased investment in product development, it managed to increase its cash flow by $ 1.1 billion in the year following September 2020.

Company Finances

Activision Blizzard’s balance sheet is extremely healthy with very little debt, $ 10 billion in cash and current assets, and total assets of $ 23.977 billion. Its total liabilities are only $ 7.027 billion with only $ 3.6 billion in debt.

Over the past five years, the company’s operating expenses have remained relatively stable. This means for investors that the company is increasing its revenue year on year while keeping its operating expenses consistent. The company’s financial results, coupled with growing market demand, have excellent upside potential.

(See the analysis of Activision Blizzard’s stocks on TipRanks)

Evaluation

When assessing the intrinsic value of Activision, investors should consider several factors. The first is its current free cash flow and its potential future cash flow. The company also has a strong balance sheet with plenty of cash and long-term assets with relatively little debt. By calculating its weighted average cost of capital, investors will find it to be around 6.4%. To account for variances, the calculation below will include a discount rate of 7.1% as a safety margin.

Activision’s current free cash flow is $ 2.812 billion with expected growth of 13.4%, taking into account expected industry growth and Activision’s additional market share. Using a discount rate of 7.1% per annum, the present value of its future cash flows is $ 39.029 billion. After factoring in its current net assets, Activision’s intrinsic value is around $ 55.979 billion, giving the stock a price target of $ 93.63.

Risks

Activision’s stock involves several risks. On the one hand, the video game market is growing relatively slowly compared to other technology industries such as the social media market. With an expected growth rate of 11% per year, the video game industry lags behind other industries. Although the industry as a whole is growing slower, this is not an accurate measure of success and will not hamper the company’s ability to deliver results.

Additionally, due to the bad press surrounding sexual misconduct and toxic culture allegations, the company may find it difficult to employ quality talent in the short term. These issues are likely short-term in nature and are an issue that every business faces as the company moves towards a more inclusive work environment.

Additionally, the video game industry saw a resurgence of interest during the 2020 lockdowns. The risk here is the possibility that these additional revenues are short-term in nature and not continue. On the other hand, growth is probably not a short-term trend as video games are known to be addicting. Those who have purchased video game consoles will likely continue to use them due to their fun and addicting nature.

Analyst consensus

When it comes to Wall Street, Activision has a moderate buy consensus rating, based on 13 awarded buys, 5 takes and 1 sell in the past three months. At $ 90.44, Activision Blizzard’s average price target implies a potential upside of 59.25%.

Final thoughts

There is noise around Activision, but investors should remember that it is a fundamentally sound company with excellent financial management. With the growth of the mobile and console gaming market, Activision will continue to dominate with its top titles. Activision Blizzard’s strong financial position, coupled with additional consumer demand, offers good prospects for the future through 2022.

Disclosure: At the time of publication, Aaron Stine held a position in one of the titles mentioned in this article.

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