Microsoft’s Acquisition of Activision Blizzard Signals Promise in Growing Industry
In 1952, Alexander Shafto "Sandy" Douglas invented OXO, what many consider the world’s first video game. OXO was a computer simulation of tic-tac-toe. Each game was played by one user against an artificially intelligent (AI) opponent, programmed to play a perfect game. The player entered their choice square by using a rotary telephone controller and selecting one of the nine squares on the board they wished to make their move on. Their input would appear on a screen, and then the computer's move would follow.
As one might expect, OXO never really caught on. The game’s lack of graphics and the fact that the game was unavailable to the public — OXO could only be played in the University of Cambridge's Mathematical Laboratory by special permission — meant that interest in the world’s first video game died. Still, Douglas was on to something and decades later, came an explosion of video games.
Seventy years later, the state of gaming is much different. According to Microsoft, approximately three billion people worldwide actively play video games. And, by some estimates, the videogame industry is worth more than the global movie and North American sports industries combined. Today, players can literally embed themselves into gameplay. Instead of using rotary phones to select choices for simple games, players now don headsets and controllers to shoot hoops and sometimes zombies. Today, video games are works of art praised and awarded for their storytelling, acting, imagery and escapism.
Earlier this year, Microsoft Corp. (Nasdaq: MSFT) announced a plan to acquire Activision Blizzard Inc. (Nasdaq: ATVI), a leader in game development and interactive entertainment content publisher. Microsoft is set to acquire Activision in a $95 per share all-cash transaction pending a Federal Trade Commission (FTC) review. The transaction is valued at $68.7 billion. While this isn’t the largest merger and acquisition (M&A) deal of all time, it has been dubbed the largest technology and gaming M&A deal in history. It’s also notable because large-scale M&A deals are usually not done with just cash.
If granted regulatory approval, the Activision Blizzard deal is likely to close in Microsoft’s next fiscal year (2023). The tech giant’s intent to buy one of the largest video game developers shows a paradigm shift in the commercialization of the game industry. What does the deal mean for the video game world and what opportunities await for an institutional investment manager like AIMCo?
According to Chris Tsang, Associate Portfolio Manager, Fundamental Equities at AIMCo, there are several implications for the videogame industry. First and foremost is whether the deal will clear various international antitrust reviews and regulatory hurdles.
“For Microsoft, the acquisition is both horizontal and vertical in nature. Horizontal mergers are where consolidation occurs between assets that operate in the same portion of the value chain. For example, consolidating Activision’s video game publishing business with Microsoft’s existing video game publishing," said Tsang.
“Vertical mergers are where consolidation occurs between assets that operate in different parts of the supply chain. For example, combining Activision’s video game intellectual property (IP) assets with Microsoft’s Xbox console (hardware) business. Whether a vertical merger is anticompetitive becomes a complex question which depends on how the vertically merged assets could be used in conjunction strategically and to what degree this could result in consumer harm.”
If Microsoft makes some or all of Activision’s video game content exclusive to the Microsoft consoles to strengthen its gaming franchise, this will have clear competitive and consumer implications and may not pass FTC approval. If the FTC approves the acquisition, it will set a strong precedent for video game publishers and consumers alike. In fact, Microsoft’s intent recently caused Sony, Microsoft’s direct competitor, to level up. On January 31, 2022, Sony Interactive Entertainment announced its intent to acquire Bungie, a large video game developer who has made exclusive content for Microsoft, for $3.6 billion.
The consolidation of video game publishers is not new, but the pace at which smaller video game publishers are getting acquired by larger tech and video game companies has picked up in recent years. The reason for this is the rise in popularity of gaming, especially over the past two years. In 2020, gaming quickly emerged as one of the most popular activities during the COVID-19 outbreak. All age groups and demographics spent more time gaming — a fun and fairly inexpensive way to travel to new worlds and pass time during the isolating stay-at-home orders.
With more companies and consumers experimenting and playing with video games, many analysts have suggested that Microsoft’s purchase of Activision has something to do with the metaverse, the virtual network of augmented reality (AR), virtual reality (VR) and 3-D virtual worlds focused on social connection. According to Tsang, Microsoft’s acquisition says something about both the future and current state of games, too.
“In their M&A call, Microsoft did openly reference the metaverse. They discussed the importance of creating digital ecosystems of content, commerce and applications within a metaverse platform,” said Tsang.
To date, Microsoft already owns some digital ecosystems such as Minecraft which was acquired back in 2014. They’ve also been investing in virtual and augmented reality hardware for years, as evidenced by their HoloLens augmented reality headset. That said, Activision has a clear strategic fit with the Xbox franchise regardless of how the metaverse angle plays out.
It's easy to get caught up in the hype of tech trends and fads. Netflix, Google and Amazon have all invested heavily in video games recently, for example. The metaverse is also a reality deeply entrenched in video games and is evolving at a rapid pace with real money behind it. Real estate sales on the major metaverse platforms reached $501 million in 2021, according to MetaMetric Solutions, a company that tracks digital real estate prices. Many estimates suggest that this number could double this year.
When it comes to investing in the gaming industry, there is plenty of money and excitement out there. However, Tsang is careful to keep things in perspective.
“At AIMCo, we want to take advantage of emerging themes, like video games and VR. Microsoft’s move to acquire Activision Blizzard has caused investment managers to look more seriously at opportunities in gaming. While many emerging themes have offered short-term promise and excitement, at AIMCo, we must avoid speculation and have our investment decisions deeply rooted in the long-term prospects of businesses and sectors. We are aware of and factor in a variety of key drivers including themes and secular trends in each sector we analyze — it is all part of the investment due diligence process.”
If approved, Microsoft’s acquisition will accelerate the growth in the company’s gaming business across mobile, PC, console and cloud and will provide building blocks for AR, VR and 3-D gaming. Deals such as Microsoft’s and Sony’s purchases are expected to continue to fuel a new generation of gaming which will be steeped in the joys of interactive entertainment. Gaming is a dynamic and growing industry that pushes the bounds of our imagination and technology. As Microsoft proved earlier this year, the video game industry is also pushing the bounds of investing.