Pause This Game for a While, You Might Be Better off Exiting It

Harsh is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Well, it was quite inevitable and I had seen in coming three months ago. Investors had rejoiced after Activision Blizzard (NASDAQ: ATVI) released its fourth-quarter results in January, but I was more or less sure that they were celebrating too early. The Street hadn’t paid enough attention to Activision’s weak outlook then, and nor did any one heed management’s calls that 2013 was going to be a difficult year.

But, all of that changed this time when the video game publisher said that it expects to face tough times in the second half of the year, especially the holiday season. Thus, despite reporting estimate topping numbers for the first quarter and bumping up its guidance for the full year, Activision shares crashed close to 6% -  weird ways of the Street I should say!

With the stark realities of the transition in the video game industry and stiff competition finally coming to light, will it be a good idea to book profits and hit the eject button now? The stock has gained close to 40% so far this year, something which I’d expected, but I think it’s time to go from thumbs up to thumbs down on Activision. Start counting the reasons.

WoW is no more wow!

World of Warcraft, one of Activision’s most famous games and an important source of revenue, has been bleeding subscribers. The game witnessed an exodus of 1.3 million subscribers in the previous quarter, a steep decline of 14%. The eight-year-old franchise has been kept alive through expansion packs, but the maturity of the game and the stiff competition it faces from free-to-play games could further eat into its subscriber base.

Activision CEO Robert Kotick accepts this fact as he stated that the game could well see more declines going forward. However, the company will be trying its best to arrest the decline through investments to develop more content and push out updates more frequently in order to keep subscribers engaged. However, the changing winds in the gaming industry and the greater charm of free-to-play games certainly cannot be ignored and I doubt for how long Activision would be able to ward off their invasion.

As Forbes contributor Erik Kain pointed out, major game developers are moving to the free-to-play model as the players won’t have to shell out a monthly subscription, but they would instead make in-app purchases if they need. Also, the presence of viable substitutes for WoW would make it difficult for Activision to keep this game’s stickiness intact.

Thus, with one of its most important revenue generators under pressure, you won’t be wrong if you think of pulling out your money from Activision Blizzard shares.

It’s gonna be really, really tough!

If the previous years were comparatively easy for Activision as far as competition was concerned, this one’s going to be equally difficult. With the number of titles in the fray in the second half of the year, Activision Blizzard looks on course to lose at least some share of its market.

As Fool analyst Demitrios Kalogeropoulos pointed out, one of the most potent threats would come from the stable of Disney (NYSE: DIS), which is slated to release Infinity in August and it would go head-to-head with Activision’s Skylanders, the publisher’s leading title in North America and Europe. Infinity is surely turning some heads, and the buzz is that Disney’s wide array of characters would certainly be a huge selling point. Moreover, Disney’s marketing force is more than capable of creating a dent in Activision’s Skylanders sales.

But wait, this is not the only front where Disney would be making life difficult for Activision Blizzard. The company has turned to Activision’s rival, Electronic Arts (NASDAQ: EA), for developing games based on the Star Wars franchise. Electronic Arts has prior experience with its Star Wars: The Old Republic MMO game (which it converted into a free-to-play game and this has paid off), and the publisher’s famed studios will work on Star Wars. Throw in the release of Battlefield 4 from Electronic Arts later this year, and I see things getting even more difficult for Activision.

And yet, I haven’t spoken about the upcoming release of the latest installment one of the most successful game franchises ever, Grand Theft Auto V from Take-Two Interactive. Thus, with so many strong franchises from strong developers on the way, it remains to be seen how Activision’s best games, including the Call of Duty, franchise would perform. Till last year, I used to be pretty sure that Activision’s CoD would sell in record numbers, but I’m having some doubts this time.

Final words

Apart from these concerns, the ongoing transition in the gaming industry, which I’d discussed in my previous post on Activision, is another factor that could weigh on the company in the near-term. The proliferation of mobile devices, and casual gaming along with, and innovative, Android-based consoles such as the Ouya and the NVIDIA’s Project Shield indicate that the video game industry is changing.

Nintendo’s Wii U failed to surpass its predecessor in terms of sales, and if Microsoft and Sony’s upcoming consoles fail to re-ignite the growth, then the going might be difficult for Activision. Thus, with so many changes happening, it would be prudent to wait and watch from the sidelines as to how Activision Blizzard emerges once the console cycle refreshes.

While Activision and Microsoft have been taking the headlines when it comes to console gaming, investors following the gaming sector would do well to also keep tabs on Electronic Arts. We can help. The Motley Fool's special report breaks down the risks and opportunities facing the company to help you decide if EA is right for your portfolio. Click here to get your copy now.

Harsh Chauhan has no position in any stocks mentioned. The Motley Fool recommends Activision Blizzard and Walt Disney. The Motley Fool owns shares of Activision Blizzard and Walt Disney. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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