Microsoft: Activision Deal Is Likely A Major Strategic Win (NASDAQ:MSFT)

Microsoft (NASDAQ:MSFT) acquired some main excellent news on Monday after regulators within the European Union lastly permitted of the software program firm’s acquisition of online game maker Activision Blizzard (ATVI). Microsoft introduced its intention to purchase Activision in a deal valued at $69B greater than a 12 months in the past. The deal is supposed to advance Microsoft’s push into the video gaming trade and is ready to make the software program firm the third-largest gaming firm, by income, on the planet. Contemplating that Microsoft continues to earn billions of {dollars} in free money circulate every quarter and Microsoft now has a catalyst for cloud gaming development, I imagine Microsoft shares are set for a continuous upside revaluation!

A strategic win for Microsoft

Microsoft over time has been a heavy investor within the video gaming trade and most notably achieved development by means of its XBOX division. Nevertheless, the acquisition of Activision Blizzard, which owns among the most famous online game franchises on the planet together with names resembling Name of Responsibility, Sweet Crush and Warcraft, couldn’t solely increase Microsoft’s gaming income development, however flip the software program firm right into a predominant participant in cloud gaming trade. European regulators approved of Microsoft’s acquisition of Activision Blizzard on Monday and EU approval comes simply weeks after the competitors regulator within the U.Ok., the Competitors and Markets Authority, blocked the acquisition as a consequence of considerations over Microsoft’s power within the cloud gaming market.

The European Union, nevertheless, gave the go-ahead for the transaction after Microsoft made concessions to alleviate considerations over a dominant place in cloud gaming. For instance, Microsoft agreed {that a} bought Activision online game might be performed on any cloud gaming platform, not solely on Microsoft’s. The corporate agreed, for instance to carry Activision’s Name of Responsibility franchise to Nintendo for a period of ten years. Microsoft supplied a similar deal to Sony which dominates the console market with its extremely fashionable PlayStations.

By making this concession, Microsoft addressed regulator considerations that the corporate might develop a monopolistic place within the quickly rising cloud gaming market. In line with S&P Global Market Intelligence, the worldwide cloud gaming market is ready for fast development within the coming years because the section is predicted to develop between 28% in FY 2023 and as much as 46% in FY 2025. The most important gamers available in the market are Microsoft, Sony, Nintendo, and Chinese language tech/gaming big Tencent.

The chart (Source) under exhibits Microsoft’s historic development in gaming revenues in addition to annual income ranges for the years 2017 to 2022. In FY 2022, Microsoft generated $16.2B in revenues from its gaming enterprise, exhibiting 6% 12 months over 12 months development and 12% common annual development since FY 2017. The pandemic clearly helped Microsoft’s gaming income development as a result of, as a consequence of financial lockdowns and COVID-19 restrictions, many customers turned to on-line video games to spend their free time. With the expansion of cloud gaming, I imagine the Activision Blizzard transaction is enormously useful for Microsoft because it strengthens the corporate’s gaming place within the cloud market and in addition provides an accelerant to Microsoft’s income development.

Microsoft’s valuation

In my work “Microsoft: Breaking Out After Q3 Earnings” I made the purpose that Microsoft’s shares weren’t essentially costly given the large quantity of free money circulate the corporate earns on a quarterly foundation and given Microsoft’s robust development in its Clever Cloud enterprise. Shares of Microsoft are at present valued at a P/E ratio of 28X which makes MSFT one of many costlier tech/FAANG shares: solely Amazon’s shares are costlier with a price-to-earnings ratio (on a ahead foundation) of 44X…

Nevertheless, Microsoft is an enormously free money flow-strong enterprise which generated $17.8B in free money circulate simply within the third fiscal quarter which calculated to a 34% FCF margin. Since Microsoft can be returning a big share of its free money circulate to shareholders by means of inventory buybacks, I imagine Microsoft’s valuation stays enticing for buyers… particularly after the EU permitted of the Activision deal.

Dangers with Microsoft

From a industrial viewpoint, I imagine the largest danger for Microsoft is slowing development within the Clever Cloud enterprise. There’s a further danger that pertains to the slowdown within the PC market which has affected Microsoft’s Private Computing division negatively in current quarters, particularly concerning Home windows OEM revenues. What would change my thoughts about Microsoft is that if the corporate noticed slowing development in its Azure (Cloud) enterprise and falling free money flows.

Ultimate ideas

Regulatory approval from the European Union for the acquisition of Activision Blizzard is a serious strategic win for Microsoft which comes simply at a time when buyers have been involved in regards to the firm’s slowing development in Clever Cloud/Azure. The transaction opens up a brand new pathway for sustained development within the cloud gaming market and permits Microsoft to scale back its reliance on {hardware} gross sales. Gaming revenues have grown strongly within the final 5 years and the acquisition of Activision Blizzard goes so as to add main franchise names to Microsoft’s content material library. Whereas shares of Microsoft usually are not completely low-cost primarily based off of earnings, I imagine Microsoft’s robust free money circulate, more and more diversified enterprise and rising content material power within the cloud gaming market make shares a robust purchase nonetheless!