A playable card from the F2P Hearthstone: Heroes of Warcraft.

NOV. 3, 2015 • Activision Blizzard is spending $5.9 billion ($18 per share) to acquire all outstanding shares of Dublin, Ireland-based Candy Crush Saga creator King Digital Entertainment. Of the total, $3.6 billion is cash that Activision Blizzard has parked outside the United States. The remainder is made up by a loan fronted by Bank of America Merrill Lynch and Goldman Sachs Bank. The acquisition is expected to close by spring 2016 should King shareholders, the Irish High Court, plus European Union and U.S. regulators endorse the deal. King chief executive Riccardo Zacconi will continue to run the 1,600 employee operation as an independent unit. After the King is acquired, Activision Blizzard estimates that non-GAAP revenue for 2016 will increase by 30%.

Impact: Wow, Activision Blizzard is paying a vast sum to buy into the upper tier of mobile game revenue generators. To put this in perspective, consider that the Walt Disney Co. laid out $4.05 billion to buy LucasFilm Ltd. and the Star Wars franchise. King Digital’s adjusted revenue has fallen in each of the past four quarters. This continues a trend of big buys to enter an industry segment including Microsoft Corp. paying $2.5 billion for Mincraft developer Mojang AB, and Facebook Inc. acquiring Oculus VR Inc. for $2 billion. With this acquisition it is clear how much Activision Blizzard coveted becoming a mobile game big shot. The worry is the publisher paid too much. Not only is $18 a share not much lower than the $22.50 reached with King’s March 2014 IPO, but the company’s adjusted revenue has fallen in each of the past four quarters. By the end of Q2 2015, monthly unique payers for King were down 27% from the previous year to 7.6 million. While monthly gross bookings per paying user were up over the previous year, they were down over Q1. King has a strong track record of producing successful hits, but nothing compared to Candy Crush Saga. That game is still a huge moneymaker but King has not been able to come up with another title that can match that kind of revenue generating trajectory. This is a completely understandable situation and no black mark on King, but if Activision Blizzard was paying top Candy Crush value, it paid too much. For a complete discussion of King and Candy Crush Saga see the DFC Intelligence brief.

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Activision Blizzard was drawn to King for various reasons. First, direct access to 340 million monthly unique active King users is attractive. As mentioned above, the publisher wants a premier footprint in the mobile game segment. Next, after nibbling around the edges of the freemium business model, the success of Hearthstone: Heroes of Warcraft changed some minds in the executive suite, Activision Blizzard chief executive Bobby Kotick said in a conference call. The game was instrumental in boosting non-GAAP digital net revenue to $697 million for the third quarter. Acquiring King was an opportunity to bring home proven multiplatform F2P expertise. Other reasons Kotick offered to support the deal included enhancing the publisher’s revenue stream, using King to grow into untapped territories where Activision Blizzard content is not represented, and as a ready-to-go infrastructure to migrate the publisher’s large stable of past franchises to mobile. While revenue is declining King is on track to generate over $2 billion in 2015 and is still very profitable.

King CEO Riccardo Zacconi.

Despite such a rationale, we think that the King acquisition was clearly at a premium and is part of the trend of buying a company at their peak in order to obtain market share. The track record for these types of acquisitions is not strong so it strikes us as expensive and risky. King basically gets Activision Blizzard a major position in the mobile space. However we see very few synergies between the two companies in terms of products. Really it just addresses ATVI’s weakness in mobile and reaching a broader demographic. King has a much larger audience than Activision but they have been struggling to monetize that audience. Only about 2% of the 340 million monthly unique users paid anything last quarter. That is fine in an F2P model, but the bigger concern is the user base is declining. Zacconi will have plenty of freedom to operate, for now, but that does not take away from the reality that translating Activision Blizzard’s IP into winning freemium mobile hits is a major challenge.