Valuation and Financial Statement Analysis for Activision ...

1 Valuation and Financial Statement Analysis for Activision -Blizzard, Inc. by Stephen Byrne Wittmann A thesis submitted to the faculty of The University of Mississippi in partial fulfillment of the requirements of the Sally McDonnell Barksdale Honors College Oxford, MS May 2014 XDr. Rick ElamReader XDr. Victoria DickinsonAdvisor XDean Mark WilderReader ii 2014 Stephen Byrne Wittmann ALL RIGHTS RESERVED iii ABSTRACT STEPHEN BYRNE WITTMANN: Valuation and Financial Statement Analysis for Activision -Blizzard, Inc.

2 (Under the direction of Dr. Victoria Dickinson) Activision -Blizzard (ATVI), a market-leading publisher and developer in the videogame industry, represents a fascinating case study of a player in a relatively new industry as it struggles to find a permanent place among entrenched entertainment staples such as music, television, and movies. The company in its present form is the product of a 2008 merger between Activision Inc. and Vivendi Games, thus creating a massive publisher with rights to several of the industry s most popular franchises, including World of Warcraft, StarCraft, and Call of Duty.

3 This industry domination has not gone unnoticed, and as of March 2013, ATVI s share price has seen a 41 percent leap following strong earnings releases this year. Furthermore, Vivendi Universal, the French parent company, has shown an interest in selling ATVI as the conglomerate moves to divest several of its subsidiaries. This paper determined that ATVI was a suitable and attractive candidate for an acquisition due to its large cash pile ($4 billion) and valuable intellectual property. In July, 2013 the company was the target of a buyout led by several prominent executives and investors with the objective of moving the dynamic, growing organization away from the stagnating French conglomerate, Vivendi.

4 This action lent credence to the early opinions reached in this paper following a detailed Financial Statement and Valuation Analysis , and should be the beginning of an exciting new chapter for ATVI and its stakeholders. iv Table of Contents List of Tables and Figures .. vi List of Abbreviations .. vii Introduction .. ix .. 1 Section : Core Business Operations .. 1 Section : Supply and Demand Considerations .. 2 Section : Competitive Analysis .. 5 Section : Corporate Website Disclosure .. 9 Section : Asset Composition.

5 11 Section Financing and Liability Composition .. 14 Section : Valuation Considerations .. 17 Section : Cash Flow Analysis .. 18 Section : Basic Financial Statement Ratio Analysis .. 24 Section : Disclosure 27 Section : Board of Directors Analysis .. 29 .. 33 Section : Ratio Analysis .. 33 Section : RNOA 39 Section : NOR Disaggregation .. 41 Section : Liquidity and Solvency Ratios .. 42 Section : Vertical and Horizontal Analysis .. 45 Section : Selected Operating Margins .. 47 Section : Ratio Limitations .. 50 Section : Revenue Recognition Policies.

6 51 Section : Restructuring Charges .. 52 Section : Foreign Currency Adjustments .. 53 Section : Earnings Per Share .. 54 .. 56 Section : Receivable Analysis .. 56 Section : Inventory Analysis .. 61 v Section : Property, Plant, and Equipment 65 Section : Intercorporate Investments and Goodwill .. 68 Section : Share Repurchases, Stock Dividends, and Stock Splits .. 69 Section : Operating Leases .. 71 Section : Pension Considerations .. 74 .. 75 Section : Financial Statement Projections .. 75 Section : Income Statement Projections.

7 75 Section : Balance Sheet Projections .. 77 Section : Cash Flow Statement Projections .. 77 Section : WACC Calculation .. 78 Section : Cost of Equity .. 78 Section : Cost of Debt .. 79 Section : WACC Value .. 80 Section : Public Comparables Analysis .. 80 Section : Discounted Cash Flow 82 Section : Residual Operating Income Model .. 84 Ch. 5: Conclusions .. 86 Bibliography .. 89 vi List of Tables and Figures Table 1 Operating Vs. Non-Operating Activities: Income Table 2 Operating Vs. Non-Operating Items: Balance Table 3 Return on Table 4 Return on Table 5 State and Federal Tax Table 6 Net Operating Profit After Table 7 Net Operating Table 8 Return on Net Operating Table 9 Return on Table 10 Non-Operating.

8 39 Table 11 Net-Operating Profit Table 12 Table 13 Current Table 14 Quick Table 15 Liabilities to Table 16 Gross Profit Table 17 SG& Table 18 R& Table 19 Earnings Per Table 20 Accounts Receivable Table 21 Average Collection Table 22 Inventory Table 23 Average Inventory Days Table 24 Valuation Model Price vii List of Abbreviations ACP Average Collection Period AIDO Average Inventory Days Outstanding APIC Additional Paid-In Capital ART Accounts Receivable Turnover ATVI Activision -Blizzard Capex

9 Capital Expenditures CAPM Capital Asset Pricing Model COGS Cost of Goods Sold DCF Discounted Cash Flow EA Electronic Arts EBITDA Earnings Before Interest, Taxes, and Depreciation EBIT Earnings Before Interest and Taxes EPS Earnings per Share EV Enterprise Value FIFO First-In-First-Out FLEV Financial Leverage GAAP Generally Accepted Accounting Principles GPM Gross Profit Margin IP Intellectual Property IT Inventory Turnover LIBOR London Interbank Offer Rate LIFO Last-In-First-Out MMORPG Massively Multiplayer Online Role Playing Game viii NOA Net Operating Assets NOAT Net Operating Asset Turnover NOPAT Net Operating Profit After Taxes NOPM Net Operating Profit Margin

10 NOR Non-Operating Return PC Personal Computer PPE Property, Plant, and Equipment R&D Research and Development RNOA Return on Net Operating Assets ROA Return on Assets ROE Return on Equity ROPI Residual Operating Income SEC Securities and Exchange Commission SG&A Selling, General and Administrative TTM Trailing-Twelve Months WACC Weighted Average Cost of Capital ix Introduction Activision -Blizzard (ATVI) is a market-leading publisher and developer in the videogame industry. The company holds rights to many of the most-recognizable videogame franchises in the world, including World of Warcraft, and Call of Duty.