Is Activision Blizzard, Inc. (ATVI) Running Out of Ammunition?

Video games may be rotting our brains, but with Activision Blizzard, Inc. (NASDAQ:ATVI)’s growth in both net income and revenue from 2011 to 2012, it doesn’t look like they’re rotting anyone’s wallet. The boost in profits led to a nice jump in the company’s stock price; a jump that caught the eye of…well, almost everyone with eyes.

All that sounds great, but as a new investor, that’s hardly enough for me to figure out whether or not Activision is a good investment. So, let’s put Activision Blizzard, Inc. (NASDAQ:ATVI) on the hot seat, and analyze the company by looking at three things:

1). Its valuation relative to similar companies.

2). What other investors are saying.

3). What risks the company faces.

Comparison

Creating a valuation of a potential stock may seem mystifying. However, determining value is something us average folk do on a daily basis. It’s the reason the last pair of jeans I bought were Wrangler and not True Religion. And no, it’s not because I secretly hope to play pick-up football with Brett Favre. Rather, I’m not much of a fashionista, so I realized I’d get the same amount of use for a lower price—ergo a better value. And at the core of it, that’s what investing is all about — finding price/value disparities. There’s a price for a stock and there’s the value of the company it represents.  When those two are out of alignment, it can create an opportunity for eagle-eyed investors.

One way to spot these opportunities is by comparing similar companies’ price to earnings ratios (aka P/E). That gives us an idea of just how much investors are will to pay per dollar in return.

Electronic Arts Inc. (NASDAQ:EA)

If you could pay $14 per share to get a dollar in return, why in the world would you pay $36? Well, why do people bet the pony with 100/1 odds, or ride roller coasters? For the thrill! So, if you feel like getting a little risky, try betting on a company like Electronic Arts. The company has struggled in recent years, but there are high hopes that white-hot growth will put EA back “in the game.” The way the industry evolves it may take a company a few years to get its feet back under them. But with significant growth in Electronic Arts’ mobile and online revenues, there’s still a good shot EA can make that comeback. Though, even with a potential comeback, I’d be hard pressed to believe EA could surpass Activision.

Microsoft Corporation (NASDAQ:MSFT)

However, if sitting on your couch and watching Downton Abbey is your idea of an exciting night, maybe Microsoft is more your speed.  Microsoft is a giant of a company—about 14 times the size of Activision– and while they may not knock it out of the park when it comes to growth, Microsoft has increased its profit margins every year for the past three. And I expect that trend to continue with the arrival of the Xbox 720. It has been eight years since the last big video game console launch and rumors have been running rampant about possible specs for the newest systems. This may be just the spark needed to relight the fire under the video game industry; investors should prepare themselves for a nice spike in profits this coming Christmas.

Toe to toe, Microsoft is safer then Activision Blizzard. Microsoft has a stronger reach, which means that if the video game industry crashes and burns, Microsoft will be just fine.

Take-Two Interactive Software, Inc (NASDAQ:TTWO)

With earnings per share currently resting at a dismal -1.51, Take-Two may not be the prettiest girl at the dance, but there may still be some upside here. Take-Two impressed analysts with its strong push this past quarter, led by the stellar performance from NBA 2K13 and Boarderlands 2. And the near future looks bright as the company plans to release the newest edition of it most popular franchise, Grand Theft Auto V. But, there seems to be better options out there—Activision for one– and I’m far from sold on Take-Two being a profitable move for investor’s long term.

Looking for Guidance

As a new investor, one of the best strategies is to find out what others, qualified others, are saying about a particular stock.

Demitrios Kalogeropoulos of The Motley Fool suggests that its Activision’s ability to produce quality franchises — such as Skylander and Call of Duty– that has propelled it into the developing elite. It should also be noted that Activision’s stance on stock repurchasing and dividends have investors drooling at the mouth.

Not to mention the Motley Fool invests in Activision Blizzard. And they seem to know what they’re doing, right? Of course it’s not enough to just know that somebody else owns it. If things do start to get a bit bumpy, you need to know whether or not it’s time to jump off. For that reason it’s always a good practice to understand why The Fool—or anyone else for that matter—is hot or cold on a particular stock, and do your own homework.

Risks

Call of Duty has, for the first time since its inception in 2004, sold fewer units to Xbox and Playstation users than the year before. Is that a sign that Call of Duty is running out of ammunition? I think that’s doubtful, but the broader concern is Activision’s ability to maintain its current overall rate of growth. There are plenty of options here for doing just that– cutting costs, selling more by making new games, increasing the price of franchise games, or expanding its market –but executing any one of them well is far from a guarantee.

It does, however, look to me like it’s off to a fast start on at least one of those. Activision has already begun expanding its market by leveraging games like Skylander Giants to reach a younger audience. I think that’s a pretty brilliant move, because if there’s one thing kids do that 20-somethings don’t, it’s buy merchandise. And they buy lots of it. Through January 2013, Activision has sold over a 100 million Skylander toys worldwide.

Finally, as a video game publishing company, Activision is dependent upon the success of console makers like Microsoft, Sony, and Nintendo. And with the somewhat disappointing performance of the Wii U, Activision will have to scramble to make up lost profit opportunities. Looking forward, investors should keep an eye on rumors that te new Xbox and Playstation consoles may change their gaming format, rendering old games completely useless. This could potentially mean huge profits for developers.

Verdict

I may not be a gambler, but when I do make a bet I gamble on large, well designed companies with a proven track record and a steady stream of profits. Or is that not gambling? Either way, I’ll bet on Activision Blizzard to leverage its key franchises and expand its market, making it a prime investing candidate. I’m going to give two thumbs up to Activision in my Motley Fool CAPS portfolio, so you can track how this works out for me.

Sorry Moms, but this video game giant is no waste of time.

The article Is Activision Blizzard Running Out of Ammunition? originally appeared on Fool.com and is written by Dave Koppenheffer.

Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.