Microsoft's (MSFT 0.84%) pending acquisition of top video game producer Activision Blizzard (ATVI) is currently working its way through the regulatory approval process. Many on Wall Street remain skeptical that one of the largest deals in tech history will get approved. Activision's stock price, currently hovering around $74, has traded at a substantial discount to Microsoft's $95-per-share offer since the acquisition was announced in January.   

Warren Buffett believes the merger will get approved. Berkshire Hathaway (BRK.A -0.53%) (BRK.B -0.50%) held 68 million shares of Activision at the end of the second quarter. If the deal is completed, Berkshire will net over $1 billion in profit.

Buying shares of Activision right now might seem like an easy 28% return when the acquisition finalizes, which looks more enticing in a bear market for stocks. Still, the game maker has reported weak revenue results this year, and the stock could have more downside if the deal is rejected. Here's what you need to know.

Microsoft-Activision merger drawing more scrutiny

With Activision Blizzard, Microsoft stands to gain a valuable asset. Activision has 361 million monthly active players. The real prize for Microsoft is adding popular titles like Call of Duty, World of Warcraft, Overwatch, and Diablo, plus hundreds of others from Activision's back catalog to the Xbox Game Pass subscription service. 

Annual player spending on Call of Duty is so high, it amounts to about 1% of the entire video game industry. The game is that popular with console players. Regulators' main concern is that Microsoft will eventually pull the game from Sony's PlayStation console and keep it as an exclusive for Microsoft's Xbox, not to mention all the other titles in Activision Blizzard's library.

The U.K. Competition and Markets Authority (CMA) recently concluded its Phase 1 investigation of the merger. In the report, Sorcha O'Carroll, the senior director of mergers, stated that "Microsoft could use its control over popular games like Call of Duty and World of Warcraft post-merger to harm rivals, including recent and future rivals in multi-game subscription services and cloud gaming." 

Activision stock is trading down 5.4% since the CMA published its findings. That means the market has placed even lower odds that the deal survives the regulatory process. 

What happens if the deal is blocked?

With Activision shares trading at a 22% discount to Microsoft's offer, investors appear to believe there's a less-than-50% chance the acquisition will be approved. If it isn't, the stock of the acquiree usually falls back to the pre-acquisition price, which in Activision's case would be about $65. That is 12% below the current share price, which is not a bad trade-off for the possibility of greater upside. 

However, the stock's downside could be even greater than it appeared in January. Activision's revenue declined 25% in the first half of 2022 versus the same period in 2021. The culprit was lower interest in Call of Duty. The Activision segment has lost 33 million players over the last year. 

Given Activision's weak business performance through the second quarter, it's likely the stock could fall below its pre-acquisition price if the merger is blocked. That makes this arbitrage play less attractive than it appeared earlier this year when Buffett started building a larger position.

How to think about Activision stock in 2022

An investor that doesn't have the patience to hold Activision for the long term should not buy the stock right now, and this is probably why Buffett decided go in. If the deal doesn't go through, he knows he still owns shares of a profitable business with top gaming brands in a growing video game industry.

Indeed, Activision should finish the year strong. The company says the next Call of Duty title launching this quarter "will lead the most ambitious rollout yet across the franchise."

Blizzard is also releasing Overwatch 2 as a free-to-play title the first week of October, which should expand the game's audience. In November, Blizzard will also launch a new World of Warcraft expansion. Early estimates for 2023 are calling for adjusted revenue, or bookings, to increase 20% over 2022. 

If the deal fails, all is not lost if you have a long-term mindset. Investors will benefit from Activision's long-term growth which should push the stock well past Microsoft's $95-per-share offer. Keep in mind that Berkshire had purchased a small stake in Activision in the fourth quarter of 2021, signaling that it believed the stock was undervalued in the $60s trading range.

As for me, I'm taking a pass. I'd rather wait for the opportunity to make a long-term investment at a cheaper valuation in the event the acquisition fails.