2009 September — Evan Wilson

Archive for September 2009

ATVI: Raising Our Call of Duty Unit Estimate to 12.5 Million

Activision Blizzard, Inc.
Rating: Outperform
Price: $12.37

Raising our ‘Modern Warfare 2’ unit estimate to 12.5 million from 9.5 million. Checks indicate that preorder totals for Call of Duty: Modern Warfare 2 (MW2) are the highest ever. Our checks extrapolate to 12.5 million units of sell-in in Q4—an increase from our previous estimate of 9.5 million, which we set after E3. Preorders are typically solid indicators of overall success.

Expectations are still highly varied. Our conversations with the buy side, combined with the wide range of printed sell-side estimates, have made it clear that a formal consensus for Modern Warfare 2 does not yet exist. We have heard Q4 unit expectations ranging from 9 million to 16 million. While it is still early, we feel confident regarding the low end of this range, and we believe that expectations could still move higher into the game’s release.

‘Modern Warfare 2’ still the catalyst for near-term ATVI Outperformance. Last week, Activision delayed Blur, but reiterated its guidance. The company also set a very cautious tone in its press release, which seemed to hint that the company was not as optimistic as some of the printed above-guidance estimates. However, we are maintaining our above-guidance estimates because of Modern Warfare 2’s strength. We continue to believe ATVI will outperform into the release of Modern Warfare 2.

Detailed Discussion

Most Preordered Game of All Time Makes Up for ‘Blur’ Delay
Checks indicate that preorder totals for Call of Duty: Modern Warfare 2 (MW2) are the highest in history. Preorders are typically a solid indicator of overall success. Our checks extrapolate to 12.5 million units of sell-in in Q4—an increase from our previous estimate of 9.5 million, which we set after E3. We detail our thoughts, including estimate revisions, below. Note that our conversation of units sold equates to sell-in, upon which the company recognizes revenue.

First Iteration Sold 7 Million Copies in December Quarter
The previous Modern Warfare (2007) sold 7 million copies in its first two months, into an installed base of 28.2 million consoles. Every store we have spoken with said that preorders are outstripping the previous version of MW, which should be expected. The first game sold 7 million copies in its first quarter and has sold 13 million copies life to date. However, its quality “snuck up” on gamers and the company, giving the title an extended tail, especially given initial supply constraints at retail. We expect MW2’s sales to be much more front-end weighted.

The previous best selling game of this cycle, Grand Theft Auto IV, sold 11 million copies in its first two months, into 35 million consoles. MW2 preorders are tracking ahead of GTA IV and, at launch, the worldwide console installed base will be twice the size at approximately 70 million. The U.S. installed base will be approximately 30 million, versus 14.7 million for GTA IV.

First-Quarter Sell-In Totals (M)

Sources: Company reports, The NPD Group, Pacific Crest Securities

Expecting a Shorter Tail – ‘GTA’ vs. ‘MW’ Tail Comparisons (M)

N.B. – Totals are U.S. sell-through, according to The NPD Group, through each game’s first 15 months. GTA sales are PS2-only, for a consistent comparison. Sources: The NPD Group, Pacific Crest Securities

Raising ‘MW2’ Unit Estimate to 12.5 Million from 9.5 Million
We now expect MW2 to sell 12.5 million copies this holiday, up from our previous estimate of 9.5 million. We raised our estimate coming out of E3, but increasing pre-orders, especially after recent hardware price cuts and details on the game’s multiplayer mode, support a higher estimate. In addition, retailers are reporting that, as games have been delayed, preorders for other games have been rolled into MW2 at a very high rate. Our new estimate is near the high end of the published sell-side estimates for the game. This estimate does not include the Wii port of Call of Duty 4: Modern Warfare, which we have modeled at 600,000 units.

Wide Band of Expectations and No Formal Whisper
Considering our conversations with the buy side and referencing the wide range of printed sell-side estimates, it has become clear that a formal consensus for MW2 does not yet exist. We have heard Q4 unit expectations ranging from 9 million to 16 million. While it is still early, we feel confident regarding the low end of this range, and believe that expectations could still move higher into the game’s release.

Maintaining Our Above-Guidance Q4 Estimates
Last week, Activision delayed Blur, but reiterated overall guidance. We are maintaining our estimates to incorporate this delay, which equated to $80 million in revenue and less than $0.01 in EPS. We are also lowering our catalog estimate to $390 million from $500 million to incorporate continued slow industry sales. The company also set a very cautious tone in its press release—apparently a hint that the company was not as optimistic as some above-guidance estimates would suggest. However, we are maintaining our above-guidance estimates because of Modern Warfare 2’s strength.

ATVI, Games - September 29th, 2009 — 5:00am

ATVI: Delays Blur; Reiterates Guidance, But Cautious

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Event:
Activision announced it is delaying Blur, its first foray into the racing-genre. The game is now expected to come out in 2010
It reiterated its guidance for $4.05B and $0.63, but urged investors to be “cautious and prudent in evaluating the company’s forecasts”

Conclusion:
Negative. The delay is somewhat disappointing, but the more cautious tone surrounding its guidance is the biggest news

The Street is as at $0.65 for 2010 and may move lower given the cautious tone. The company attributes the caution to the macro environment, but given its three significant game delays, it certainly deserves some of the blame
We were expecting 1.75M units of Blur, or approximately $80M in sales. Given the amount of capitalized software and the marketing budget associated with the game, it was likely not going to contribute profit this calendar year
Given the modest contribution of revenue and profit that we expected from Blur, we still believe Activision can hit our estimates for the holiday season. However the hope that it will post meaningful upside and come through the holiday unscathed is a distant memory

However, ATVI is trading at 18x our 2009 EPS estimate, which we believe already prices-in a lot of negative sentiment and limits downside from these levels, especially because we expect investor sentiment to improve as we go into the holiday

Background:
Blur was not setting up to be a hit and its delay is not a total disappointment. The game does not look terrible, but gamers are waiting for Forza (Oct.) and Gran Turismo (Mar.), the two big first-party simulation racing games that come out every few years. Activision said in the release that the delay was for more work on the online multiplayer, but the game could use more time in all facets for it to really stand out.

This is Bizarre’s first game for Activision since its acquisition in September 2007. Not yet releasing a game is a disappointment in relation to the acquisition as well as Activision’s hope to finally break into the racing genre.

Activision has had far more delays this year that usual. It also delayed StarCraft II and Singularity (its other new IP that was slated to launch this year). Historically Activision has delayed fewer games than its peers, a point that it often reminds investors of. It is difficult to tell if these three delays represent an internal change or more delays to come, but against Activision’s strong track record they are a disappointment. While a game can potentially do better when it is delayed, ongoing delays erode investors’ confidence in companies’ ability to hit forecasts.

Video Games: Checks Confirm Wii Price Cut

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Event:
-We can confirm through our channel contacts that Nintendo will cut the price of the Wii this month to $199 from $249
-We are looking at the implications from the cut. Last week advertisements by Walmart, Target and Toys R Us showed a cut, so this will not be a total surprise

Conclusion:
Positive for the video game publishers and retailers. Net net, we do not expect the news of a Wii price cut to be a big driver of video game stocks near-term, but we expect it to be a contributor to a bottoming and potential improvement in sentiment

A price cut on the Wii has the potential to be more influential on the industry than the price cuts on the PS3 or the 360 for a few reasons:

The Wii is hitting $199, which is a much more ‘mass-market’ price point than the fully-featured 360 and PS3
The Wii is more popular and is already selling at a much faster rate
It will help drive Nintendo software sales, which have been one of the primary drags on industry sales growth
The 360 price cut was not a true price cut. It was just more box for the money

We estimate that the Wii price cut will drive October hardware sales up at least 50% versus September

There is not a perfect historical price cut to compare to, but the first price cut of the PS2 and Xbox led to 150% to 200% increases (see charts below)
For the Wii, a normalized September m/m hardware growth rate is 15% to 20% or 320K in the U.S. according to NPD. A 50% increase would lead to September Wii sales of 415K
The Wii price cut will contribute to the improving trend in video game sales that we expect to result in improved sentiment in video games

The PS3 and 360 price cuts had little direct impact on video game stocks and the Wii cut likely won’t as well

However, September NPD data will likely have the first year-over-year growth since February. The price cuts are a key driver of that growth
While October has the potential to be another difficult month, we expect growth in Q4 and Q1
The ongoing declines in the industry has crushed optimism and sentiment in the space, especially after some considered the space to be ‘recession proof’

-Evan

PS2 HW Sales M/M % Change

Sources: The NPD Group, Pacific Crest Securities

Xbox HW Sales M/M % Change

Sources: The NPD Group, Pacific Crest Securities

Wii HW Unit Sales

Sources: The NPD Group, Pacific Crest Securities

NPD Review: August U.S. Videogame Industry Sales Declined 15%

NPD_Logo August sales declined 15% year over year. NPD released August U.S. console and handheld videogame sell-through data (Aug. 2 through Aug. 29) last night after the market closed. Sales declined 15% year over year to $470 million versus our forecast for a 16% decline to $465 million, due mostly to catalog declines this year versus last. The top new titles were Madden NFL 10 followed by Batman: Arkham Asylum.

We still expect declines to end in September. As part of our August preview we conducted an initial round of checks and analysis on September’s NPD data, which will be released Oct. 15. Even with lower ongoing catalog sales, we expect sales to grow at least 10% due to several high-profile titles and console price cuts. Further, if potentially big games such as Halo 3: ODST and the music-genre games sell well, we could see materially higher growth. The industry has seen year-over-year declines in consecutive months since March, and sentiment has softened significantly since the declines began. A swing back into positive territory would likely be good for videogame stocks.

AB’s sell-through declined 12%. We had expected a 15% decline. Activision Blizzard Inc. (ATVI, $11.59, Outperform) in August released Wolfenstein, which sold only 89,000 units in 12 days versus our estimate of 125,000 units. Sales were mostly in line with our estimates, with slight upside coming from Call of Duty catalog sales. Activision last year benefited from significant volume of music titles—the main reason for its 12% decline this year. The bulk of its 2009 releases will begin to roll out starting in September; these include Guitar Hero 5 (released Sept. 1) and Marvel Ultimate Alliance 2; and Tony Hawk Ride, Blur, DJ Hero, Modern Warfare 2 and Band Hero in Q4.

EA’s sell-through declined 18%. We had expected a 20% decline. Electronic Arts Inc. (ERTS, $18.05, Outperform) released Madden NFL 10 and G.I. Joe in August. EA’s decline is due mostly to the Rock Band franchise, which sold very well last summer. Madden sold 1.9 million units in 16 days versus our estimate of 2.1 million units, down from 2.3 million last August in 19 days. This result mirrored the slow start for NCAA Football last month. Given this data and our new preliminary expectation for 600,000 units sold in September, we believe EA will ship between 3.8 million and 4.0 million units of the game. We have currently modeled flat shipments year over year at 4.5 million units in fiscal Q2 (Sept.). The miss equates to approximately $25 million in our title model. This makes us less optimistic about EA’s September quarter as the company will now need a good September sales figure to hit our forecast.

T2’s sell-through declined 42%. We had expected a 45% decline. Take-Two Interactive (TTWO, $11.15, Sector Perform) had no big new releases in August. Combined with slow catalog sales and the absence of GTA IV follow-on sales total sales declined 42% year over year. Take-Two has a relatively light release slate until October, when it will release Borderlands, GTA Chinatown PSP and GTA Episodes, among others.

THQ’s sell-through grew 16%. We had expected 5% growth. THQ Inc. (THQI, $5.89, Sector Perform) released Paws & Claws Pet Vet in August. In May and June, it released UFC 2009 and Red Faction: Guerrilla. UFC sold well, but THQ now suffers from a gap in its release slate and sales levels may be modest until the release of its annual WWE game in November.

Ubisoft’s sell-through declined 24%. We had expected a 20% decline. Ubisoft Entertainment (UBI.FR, €12.89, Outperform) had no new main releases in August. The reason for the year-over-year decline is lower catalog sales, which were bolstered last year by Assassin’s Creed. Ubisoft will resume releasing titles next month with Academy of Champions Soccer, Cloudy with a Chance of Meatballs and TMNT: Smash Up, followed by Assassin’s Creed 2, Avatar and Shaun White Snowboarding 2 in Q4, among others.

EA Memo Accurately Predicts ‘Madden’ Declines
Electronic Arts’ CEO yesterday released a memo to employees predicting August industry sales declines year over year and corresponding Madden sales declines. The memo was picked up by media outlets and spun with a very negative tone. However, after reading the memo, we find its tone and positioning much more positive than portrayed by the media. While it did accurately forecast disappointing sales of Madden, the memo also communicated a sense of optimism and confidence. While the NPD data is an incremental negative for EA given lackluster sales of Madden, we think the market read too much into the memo as the stock sold off yesterday.

August Title Sales vs. Expectations

Sources: The NPD Group, Pacific Crest Securities estimates

PS3/360 Gain Back Share from Wii Due to ‘Batman,’ ‘Madden’

Sources: The NPD Group, Pacific Crest Securities estimates

New Releases Beat Estimates to Drive Upside in August

Sources: The NPD Group, Pacific Crest Securities estimates

Information contained in this report from The NPD Group, Inc. and its affiliates is the proprietary and confidential property of NPD and was made available for publication herein by way of limited license from NPD. Such NPD data may not be republished.

Games - September 11th, 2009 — 5:32am

August NPD Results

Event:

NPD just released August U.S. video game sales data

Conclusion:

Neutral. The NPD data was very close to our estimates for the industry and for each publisher.

For ERTS – Modest negative. Even though the company hit our forecast for total sales, Madden missed our forecast by approximately 200K units. The 360 and PS3 beat our forecast. The Wii, PSP and PS2 missed our forecast. Units missed our forecast by 11%. Dollars missed our forecast by 7%. On a year over year basis Madden units are down 19% and dollars are down 18.3%.

Details:

Industry:

-15% to $470M vs. est. -16% to $465M

Batman: 520K vs. 550K

Activision:

-12% vs. est. -15%

Wolfenstein: 89K vs. est. 125K

Electronic Arts:

-18% vs. est. -20%

Madden: 1.9M vs. est. 2.1M

NCAA FB: 147K vs. est. 150K

Take-Two:

-42% vs. est. -45%

THQ:

+16% vs. est. +5%

Ubisoft:

-24% vs. est. -20%

Not rated:

Nintendo: -11% (no est.)

Wii Sports Resort: 754K vs. est. 650K

Games - September 10th, 2009 — 1:54pm

ERTS: CEO Memo Talks Down August Performance in Front of NPD Data

Event:

Bloomberg is reporting that ERTS CEO John Riccitiello sent an internal memo today to employees that says August industry sales were down for the industry and Madden “was also down with that trend”

Riccitiello: “It is discouraging that one of our highest-rated and best-marketed ‘Madden’ titles in years is facing strong headwinds”

See article for more detail

Show details >>

Conclusion:

Modest negative. The Street is already expecting a meaningful decline in August industry sales of approximately 15% Y/Y. Expectations for Madden are for down 5-10%. If Madden sales are down the same “trend” as the industry Madden could disappoint versus expectations. However, it is a little vague to pin down the exact number. It is definitely a change of tone from the Company, which has been more bullish on Madden in previous comments

Video game publishers and retailers receive the NPD data early and Riccitiello likely has advanced knowledge of the results and wanted to brace his employees for another sour month

However, from the Street’s perspective, it should not be much of a surprise that the industry and Madden were down in August. As we previewed yesterday:

We are expecting August industry sales to decline 16% year-over-year and we do not believe the Street will be surprised by another down month

We expect Madden sales to decline 9%. The decline is partially attributable to the game being in the market for 3 fewer days this August

We have spoken to the company, which is doing investor meetings at an investor conference today, but is not doing a public presentation. They did not refute the commentary from the memo. They are not giving a formal update to their expectations on Madden at the conference

We are not ready to change our estimates based on this commentary

Our position on ERTS remains that it should be able to reiterate its $1 EPS target for F2010, which will make stock trade up at these levels. We see a $23 fair-value based on our $0.95 F2010 EPS estimate. We are not in love with ERTS and its slate is nothing to write home about, but believe expectations are sufficiently low.

ERTS, Games - September 10th, 2009 — 10:36am

NPD Preview: August U.S. Videogame Industry Sales Declined an Estimated 16%

NPD_Logo

August sales likely declined 16% year over year. NPD will release August U.S. console and handheld videogame sell-through data (Aug. 2 through Aug. 29) after the market closes on Thursday, Sept. 10. We estimate that sales declined 16% year over year to $465 million due mostly to catalog declines this year versus last. The top new title this year should be Madden NFL 10 followed by Batman: Arkham Asylum.

Show details >>

Declines should finally end in September. We have done an initial round of checks and analysis on September’s NPD data, which will be released on Oct. 15. Even with lower ongoing catalog sales, we expect sales to grow at least 10% due to several high-profile titles and console price cuts, and if potential big games like Halo: ODST and the music genre games sell well, we could potentially see materially higher growth. The industry has seen year-over-year declines in consecutive months since March, and sentiment has softened significantly since the declines began. Swinging back into positive territory will likely be good for videogame stocks.

AB’s sell-through should decline 15%. Activision Blizzard Inc. (ATVI, $11.94, Outperform) released Wolfenstein in August. We have estimated 125,000 units in 12 days. Last year Activision benefited from significant volume of music titles, which is the main reason for its 15% decline this year. Activision lowered expectations for its Q3 with guidance last month, so expectations remain low for August data. The bulk of its 2009 releases will begin to roll out starting in September, including Guitar Hero 5 (released Sept. 1) and Marvel Ultimate Alliance 2, continuing in Q4 with Tony Hawk Ride, Blur, DJ Hero, Modern Warfare 2 and Band Hero.

EA’s sell-through should decline 20%. Electronic Arts Inc. (ERTS, $18.93, Outperform) released Madden NFL 10 and G.I. Joe in August. EA’s decline is due mostly to the Rock Band franchise, which sold very well last summer. We estimate Madden sales of 2.1 million units in 16 days, down from 2.3 million last August in 19 days. From our retail checks, we believe that the game is tracking flat to slightly down versus last year, depending on the retailer. With a slightly slower start, two fewer platforms (Xbox and DS) and three fewer days this year, our estimate is for a single-digit year-over-year decline in its first month of sales. However, with better reviews, fewer first-month days and the recent hardware price cuts, we believe September month-over-month declines will be modestly better than they have historically. We have modeled flat shipments year over year at 4.5 million units in
fiscal
Q2 (Sept.).

T2’s sell-through should decline 45%. Take-Two Interactive (TTWO, $10.87, Sector Perform) had no big new releases in August. Combined with slow catalog sales and the absence of GTA IV follow-on sales we estimate total sales down 45% year over year. Take-Two has a relatively light release slate until October, when it will release Borderlands, GTA Chinatown PSP and GTA Episodes, among others.

THQ’s sell-through should grow 5%. THQ Inc. (THQI, $5.89, Sector Perform) released Paws & Claws Pet Vet in August. In May and June, it released UFC 2009 and Red Faction: Guerrilla. UFC sold well, but THQ now suffers from a gap in its release slate and sales levels may be modest until the release of its annual WWE game in November.

Ubisoft’s sell-through should decline 20%. Ubisoft Entertainment (UBI.FR, €13.08, Outperform) had no new main releases in August. The reason for the expected year-over-year decline is lower catalog sales, which were bolstered last year by Assassin’s Creed. Ubisoft will resume releasing titles next month with Academy of Champions Soccer, Cloudy with a Chance of Meatballs and TMNT: Smash Up. Its more core-focused 4Q09 titles include Assassin’s Creed 2, Avatar and Shaun White Snowboarding 2, among others.

Select August Industry Releases

Sources: The NPD Group, GameSpot, Pacific Crest Securities

September Title Lineup Is Solid

Sources: The NPD Group, GameSpot, Pacific Crest Securities estimates

SNDA: Beats in Scariest Quarter; 2009 Growth Rolls On

Shanda Interactive Entertainment Limited

Rating: Outperform

Price: $50.99

Q2 EPS is much better than expected. Shanda reported Q2 revenue and EPS of $181.1 million and $0.90 versus our estimates of $180.7 million and $0.81. The EPS beat came from lower-than-expected costs of goods and development expenses. Shanda’s tax rate was also lower than expected, but it would have beat without that.

Show details >>

‘AION’ fears seem overblown as MMO growth rolls on. After the frenzy of positive AION sentiment ended abruptly, the success of the game became investors’ greatest fear. While Shanda did not break out its results exactly, we believe AION was the source of Q2 growth and better-than-expected Q3 guidance.

Other revenue was responsible for the upside. It is timely that Shanda’s other revenue outperformed because it is the chunk of revenue that constitutes Shanda’s nongame assets. Against increasing skepticism that Shanda can ever build this business into a significant revenue contributor, it appears to have gained traction, although it still contributes a small slice of Shanda’s overall revenue.

This is a good entry point in SNDA. SNDA has settled after skepticism around the release of AION and the spinoff of Shanda Games, which presents an attractive entry point. We continue to believe that the company is one of the best-positioned operators in the China online games sector.

Detailed Discussion

Q2 Beat Came from Other Revenue

Shanda Interactive reported Q2 revenue and EPS of $181.1 million and $0.90 versus our estimates of $180.7 million and $0.81. The EPS beat came from lower costs of goods and development expenses relative to our estimates as well as a lower tax rate, which were partially offset by higher S&M and G&A expenses. Shanda also benefited from a government incentive payment in the quarter, but when combined with investment income, the total was not significantly higher than our estimates. In total, the difference from these two items relative to our estimates amounted to $0.02 per share.

Reported Earnings

Sources: Company reports, Pacific Crest Securities estimates

‘AION’ Fears Seem Overblown as MMO Growth Rolls On

Massively multiplayer online game revenue was RMB 1,074.7 million versus our estimate of RMB 1,085.0 million, which was essentially in line. Monthly active paying accounts (APA) were better than we expected at 8.58 million versus our estimate of 7.48 million. However, average revenue per user (ARPU) of RMB 41.7 was below our forecast of RMB 44.2. Shanda attributed the solid growth in users, but offset in ARPU, to greater conversion of new users to paying users in the quarter.

The contribution from AION, Shanda’s newest significant game, was meaningful in the quarter and likely the source of the growth of the MMO business, but Shanda maintained its policy of not releasing data on individual games. Even though it is not entirely clear, we believe its core business was essentially flat in Q2, potentially with modest growth, and that the addition of AION was the main catalyst of growth.

Casual games revenue was below our forecast. Q2 revenue was RMB 102.9 million versus our estimate of RMB 108.0 million. Shanda has not been able to drive growth in its casual business, even as it spends on the development and licensing of new titles. We believe that the casual game industry is growing in China, but other vendors, especially Tencent, are the beneficiaries of the growth. Casual APAs were 1.86 million and ARPU was RMB 18.4 versus our estimates of 1.75 million and RMB 19.9, respectively.

Other revenue was the big surprise in the quarter. It contributed RMB 59.6 million versus our estimate of RMB 45.0 million. It is timely that Shanda’s other revenue outperformed because it is the chunk of revenue that constitutes Shanda’s nongame assets. Despite increasing skepticism that Shanda can ever build this business into a significant revenue contributor, it appears to have gained traction, although it still contributes a small slice of Shanda’s overall revenue.

Active Paying Accounts Continue Their Ascent

Sources: Company reports, Pacific Crest Securities

Modest Decline in ARPU (RMB) from Higher APAs

Sources: Company reports, Pacific Crest Securities

‘AION’ Expansion Should Help Maintain Growth

Shanda released an expansion for AION in August that has stabilized growth in the game. While it clearly prefers not to discuss individual titles, Shanda did mention that it is pleased with the reception of the expansion. Further, Shanda will release another expansion in Q4 that should provide another boost to maintain momentum. While our expectations have remained relatively muted, even with the extremely positive response following beta testing last spring, AION continues to be a very positive contributor to growth for Shanda.

This Is a Good Entry Point in SNDA

With a rapidly growing Internet user base and continued strong results, the online game industry in China is underappreciated, in our view. Shanda is a market leader and a pioneer of Chinese online gaming’s revenue model, and has a well-diversified and leading game portfolio. SNDA has settled after skepticism around the release of AION and the spinoff of Shanda Games, which presents an attractive entry point. With SNDA trading at 128x our 2010 GAAP EPS estimate of $4.00, we continue to believe Shanda is underappreciated, and one of the best-positioned companies in the China online games sector.

Online Games (China), SNDA - September 4th, 2009 — 5:54am