Why Activision Blizzard Had to Overpay for King Digital

Spending billions of dollars to acquire a company in an industry with few barriers to entry is always a questionable decision from a shareholder perspective.

But, in the case of video-game giant Activision Blizzard's  (ATVI) $5.9 billion deal for Candy Crush maker King Digital  (KING) , it's a transaction that had to happen. The talking points on the deal are compelling, as one would expect from a press release that was likely months in the making:

  • The combined company will have over half a billion combined monthly active users in 196 countries.
  • Mobile gaming revenue from the combined company is projected to grow cumulatively by more than 50% from 2015 to 2019.
  • Activision Blizzard is touting the opportunity to cross-promote content. So, at the very basic level, one could expect some form of Candy Crush ad/promotion in Guitar Hero. Or, if you download Candy Crush, you unlock a new map for Call of Duty or a song from the 1980s in Guitar Hero.

Keep in mind the background on King Digital, however, which collectively makes the acquisition quite risky for Activision Blizzard shareholders. By risky, I mean three things:

  1. The cash could have been better used, perhaps on share repurchases or along with debt, to acquire Grand Theft Automaker Take-Two Interactive  (TTWO) .
  2. As King Digital's popular Candy Crush ages and losses users perhaps quicker than execs at Activision Blizzard expect, it could lead to damaging asset write-downs.
  3. As key King Digital titles age, opportunities to cross promote content never live up to the potential pitched to investors at the time of the deal.

As for King Digital's history, there was the lukewarm response to the company's initial public offering in March 2014. The IPO priced at $22.50, it opened at $20.50, and then tumbled about 16% to around $19. As of Monday, King Digital's stock price was $15 and change -- it's telling on the attractiveness of the company's business model and financial performance since being public that Activision Blizzard only offered $18 a share, below the IPO pricing and not that much of a significant premium to Monday's close.

As for what the market has been assessing on King Digital, it's rather simple: the finite lifespan of mobile games. They come in to Apple's  (AAPL) app store with a bang, generate tons of downloads and in-game content downloads, but then lose users to new content developed by some 18-year-old programmer in San Francisco. Further, the games require constant updating to keep users enticed, but still fatigue could set in with the most popular games.

If you liked this article you might like

How eSports Leaders Are Making a Business Out of the Professional Gaming Market

Lockheed Martin, Raytheon, Activision Blizzard: 'Mad Money' Lightning Round

Shrug Off The Apple-FANG Bite: Cramer's 'Mad Money' Recap (Thur 9/14/17)

Apple iPhone X Has This Powerful Force Behind It That Nobody Is Talking About