Warren Buffett attracts a lot of attention. As the world's third-richest person and most celebrated investor, thousands try to glean what they can from his thinking processes and track his investments.
While we can't know for sure whether Buffett is about to buy Activision Blizzard
In his most recent 10-K, Buffett lays out the qualities he looks for in an investment. In addition to adequate size, proven management, and a reasonable valuation, he demands:
- Consistent earnings power.
- Good returns on equity with limited or no debt.
- Management in place.
- Simple, non-techno mumbo jumbo businesses.
Does Activision Blizzard meet Buffett's standards?
1. Earnings power
Buffett is famous for betting on a sure thing. For that reason, he likes to see companies with demonstrated earnings stability.
Let's examine Activision Blizzard's earnings and free cash flow history:
Source: Capital IQ, a division of Standard & Poor's. Free cash flow is adjusted based on author's calculations.
Over the past few years, Acrivision's earnings have fluctuated somewhat, while free cash flow has surged. (The disparity is due in large part to the company's subscription model.)
2. Return on equity and debt
Return on equity is a great metric for measuring both management's effectiveness and the strength of a company's competitive advantage or disadvantage -- a classic Buffett consideration. When considering return on equity, it's important to make sure a company doesn't have an enormous debt burden, because that will skew your calculations and make the company look much more efficient than it actually is.
Since competitive strength is a comparison between peers, and various industries have different levels of profitability and require different levels of debt, it helps to use an industry context.
|
Company |
Debt-to-Equity |
Return on Equity |
Return on Equity |
|---|---|---|---|
| Activision Blizzard |
0% |
5% |
16% |
|
Electronic Arts |
0% |
(10%) |
(14%) |
|
Take-Two Interactive |
17% |
0% |
(12%) |
|
THQ |
48% |
(51%) |
(27%) |
Source: Capital IQ, a division of Standard & Poor's.
Activision produces somewhat modest returns on equity, though they are higher than its peers'.
3. Management
CEO Robert Kotick has been at the job since 1991.
4. Business
Gaming software requires constant research and development. While it isn't particularly prone to technical disruption -- we're not talking astro-bionanorobotics here -- Buffett might shy away from such a tech-focused industry.
The Foolish conclusion
Regardless of whether Buffett would ever buy Activision, we've learned that, while reported earnings are a bit volatile and returns on equity somewhat modest, the company does exhibit some of the other characteristics of a quintessential Buffett investment: established management, limited debt, and superior returns on equity.
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