Last month, tech giant Microsoft (MSFT -1.34%) announced that it's planning to buy one of the world's largest video game publishers, Activision Blizzard (ATVI) for roughly $69 billion. Though the deal still requires regulatory approval before closing, the purchase would go down as by far the largest video game acquisition of all time.
The news also had ripple effects throughout the gaming industry as several other companies -- including Electronic Arts (EA 1.05%), Take-Two Interactive, and Nintendo -- all saw their stocks rise following the announcement. Here's why this is such a big deal for the gaming industry and Electronic Arts in particular.
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Microsoft's push for gaming
Before diving into Electronic Arts specifically, it's worth examining the rationale behind Microsoft's big purchase.
Microsoft has been a major presence in the gaming space ever since 2001 when the company introduced the first-ever Xbox console. Now Microsoft is on its fourth generation of the Xbox and even offers a comprehensive online service in Xbox Gamepass. Gamepass is a monthly subscription that bundles Xbox Live (the live service that allows people to play with friends) with unlimited access to a catalog of more than 100 streaming games. Microsoft currently touts more than 25 million Gamepass subscribers, and CEO Satya Nadella has described his aspirations for the online service as a "Netflix for games."
With this ambition in mind, Microsoft's big bid for Activision Blizzard shouldn't come as much of a surprise. It's hard to build a truly successful Triple-A game from the ground up. This has been demonstrated year after year, as the world's biggest franchises continually take up the top spots on the global best-sellers list. By buying Activision Blizzard, Microsoft is bringing some of the world's most popular franchises, like Call of Duty and World of Warcraft, under its umbrella, which could easily enhance its Gamepass offering.
With this purchase, Microsoft is essentially getting Activision Blizzard's 400 million average monthly active users, a treasure-trove of intellectual property, and a claim ticket on the creativity of some of the world's best-in-class gaming studios.
How could this impact Electronic Arts?
Electronic Arts (EA) is the second-largest American video game publisher by bookings, and the company actually runs a fairly similar business model to Activision Blizzard.
Both EA and Activision spend billions of dollars each year developing new iterations of existing franchises, knowing they have a huge base of loyal customers to sell to. Both businesses also sell their games primarily over digital channels now and collect additional in-game bookings throughout the life of their users' gameplay. Satya Nadella described the attractiveness of this model during the latest conference call: "The economics of gaming franchises is also radically becoming much more software-like."
But Microsoft isn't the only big company interested in gaming. Amazon, Meta Platforms, Alphabet, Apple, and even Netflix have all invested in or expressed interest in entering the gaming space. And there's perhaps no better time than now for these companies to acquire their way in.
With Microsoft going after one of the largest video game publishers globally, it just gave all other companies the regulatory green light to make an acquisition of their own. Since it's unlikely that any acquisition would exceed Activision's $69 billion price tag, it seems regulators would have to take an all-or-nothing approach to approvals in order to be fair.
And with only a few publishers big enough to move the needle for these tech giants financially, EA would appear to be the most logical acquisition candidate.
What EA shareholders need to know
Even though Microsoft's acquisition proposal for Activision Blizzard came at a time of duress, the purchase price was still more than a 45% premium to what Activision was trading for in the public markets. From a multiples perspective, the deal values Activision Blizzard at just over 28 times its operating cash flow from the last 12 months. Though any potential acquisition of EA might not be identical to Activision's, if the same multiple were to be applied in a buyout, it would result in a roughly 40% premium to EA's current market price.
However, in the event that no company attempts to acquire EA, investors today are still getting a durable, growing business in a tailwind-rich industry, valued at 20 times its trailing 12-month operating cash flow. As a shareholder, that leaves me with plenty to be excited about.
