SAN FRANCISCO -- Video-games publisher Activision's ( ATVI) blowout fourth-quarter result has crowned the company the star of the industry but the company's biggest challenge lies ahead. Over the next few weeks, Activision hopes to close its merger with Vivendi Games that will create a new $18.8 billion entity called Activision Blizzard. The challenge for Activision will be to integrate the two companies successfully and leverage the opportunities available to the combined entity without changing their creative structure, says Thomas Tippl, the company's chief financial officer. "Going into the merger we are very aware that the odds are stacked against you," said Tippl in an interview with TheStreet.com. "But what is different is this case we are combining two best companies in the business." Activision announced in December its plans to combine with Vivendi Games which includes Blizzard Entertainment and its biggest multi-player online role-playing game, World of Warcraft to create a new company. Activision decided to court Vivendi because of its strong presence in online games. The two companies talked for more than six months before deciding to merge. According to Activision, the new entity -- Activision Blizzard --would have about $3.8 billion in combined calendar 2007 revenue and among the highest operating margins in the industry. Tippl said it is a rare merger where both companies are coming from a position of strength. "We don't have business problems to fix here," he said. "We have two very fast growing, profitable business and we have to continue to execute the strategies that are working for us."
Activision will try to retain Blizzard's current structure as much as it can even as it tries to maximize the synergies between the two companies, says Tippl. "We do have overlap in areas such as the back office and our sales force," he said. "We want to serve our customers with one sales force, not two, and we want to leverage our synergies when it comes to media costs." What Activision will not do is consolidate the games development studios of the two companies, says Tippl. That's because Activision wants to retain the creative teams at both companies and continue to let them do their best. Many an acquisition in the video games business has failed because of the lack of compatibility between creative teams of two companies or changes to the studio structure, leading to the departure of key game developers. Vivendi Games and Blizzard should help Activision expand its franchises in Korea and China, two of the biggest international markets for video games, Bobby Kotick, chairman & CEO of Activision told analysts on a conference call Thursday. "Giving the growth Activision and Blizzard are experiencing, this is a merger not driven as much by growth synergies as it is by a complementary portfolio," said Tippl. And Activision's portfolio looks strong. Its first release of the fiscal year will be the game Quake Wars Enemy Territory for Microsoft's ( MSFT) Xbox 360 and Sony's ( SNE) PlayStation 3 console later this month.
In early June, the company will release Kung Fu Panda, in conjunction with the Dreamworks' ( DW) movie of the same name. Other movie-based games include Madagascar 2, Monsters vs. Aliens and a title based on the upcoming James Bond movie. In the second half of June, Activision will launch its game Guitar Hero on Tour for the Nintendo DS handheld console. The company has hinted at bringing new innovation to the franchise, which industry watchers say could include new music peripherals. Activision stable franchises such as Call of Duty and Tony Hawk are also expected to be revamped to make them bigger and better. Even without Vivendi Games, Activision's line-up is enough to inspire investor confidence, says Romeo Dator, co-manager of the Holmes Growth Fund ( ACBGX). "As long as there are no delays in product releases because of the merger, Activision should be fine," he said. Shares of Activision gained $3.15, or 11.3%, to $30.83 after the company blew past analysts' estimates for the fourth quarter. Activision reported net income of $44.2 million, or 14 cents a share in the fourth quarter, compared with a net loss of $14.4 million, or 5 cents a share, the same quarter year-before. Excluding charges, it posted earnings of 17 cents a share in the fourth quarter, compared with a net loss of 4 cents a share a year ago. Revenue rose 92.8% to $602.5 million. The results topped Street expectations of 5 cents a share in earnings on revenue of $373.12 million.
Activision's stock is now up 9.7% since the beginning of the year. The company's peer Electronic Arts ( ERTS) has seen its shares go fall 7.5% during the same period. Smaller rivals such as THQ ( THQI) and Midway ( MWY) have languished. THQ shares have plunged 30% since the beginning of the year while Midway is down about 17.3%. The Nasdaq composite index has fallen 6.6% in the same period. P/>There's still upside left to Activision's stock, says Dator. "I think there's probably a 10% upside from the stock's current levels," he said. "Activision can go up to $33 but beyond that, I wouldn't be a buyer." Todd Greenwald, an analyst with Signal Hill Capital Group, thinks Activision can go even higher. Greenwald says shares of Activision could trade up to the $35 to $40 level based on a multiple of 25-to-30 times the earnings estimate of $1.35 a share in 2009. Signal Hill does not own shares of Activision or have an investment banking relationship with the company. "With Blizzard, Activision should own some of the most valuable IP (intellectual property) in the industry as well as an abundance of platinum-selling licensed content," says Greenwald in a research note. "We believe the initial 2009 guidance is conservative and that Activision will continue its pattern of delivering upward revisions to estimates."