Era of Consolidation

Gaming’s Era of Content Consolidation

We are just two weeks into 2022 and this has already been a blockbuster year for the gaming industry. On January 10th, the largest acquisition in gaming history took place when Take-Two Interactive agreed to acquire Zynga at an enterprise value of $12.7b. This record was short-lived, as just eight days later Microsoft announced their landmark acquisition of Activision Blizzard in an all-cash deal worth $68.7b. For a sense of scale, the Activision Blizzard transaction is larger than the combination of Microsoft’s previous five largest deals of all time (LinkedIn + Nuance + Skype + ZeniMax Media + GitHub were collectively worth $66.3b).

It’s worth noting that neither of these deals are closed. This is particularly relevant for Microsoft’s acquisition of Activision Blizzard, which will likely take around 18 months to complete. Although we do not believe there is a viable antitrust case here, the Federal Trade Commission is taking an increasingly combative stance against big tech. The market is also demonstrating some skepticism considering ATVI’s share price closed on Friday at $81.35, which is trading at ~14% discount to the acquisition price of $95. There is a lot that can go wrong from both a commercial and regulatory perspective.

Despite these deals currently taking over the headlines, consolidation across the gaming industry is not a new phenomenon. According to a recent report from Drake Star Partners, gaming deal value totaled $85b in 2021 (~3x the value in 2020) spread across 1,159 announced / closed transactions. M&A accounted for 44% of transaction value and 26% of deal count in 2021. Some of the most notable transactions included:

• Tencent Acquiring Sumo Group for $1.3b (July 2021)
• Electronic Arts Acquiring Playdemic for $1.4b (June 2021)
• ByteDance Acquiring Moonton Technology for $4.0b (March 2021)
• Embracer Group Merges with Gearbox Software for $1.4b (February 2021)
• Electronic Arts Acquiring Glu Mobile for $2.1b (February 2021)

Although the recent Take-Two and Microsoft acquisitions may appear to be the capstone of a hyper-active deal making environment, we believe the era of consolidation for the gaming industry is just getting started. There are several key drivers for this prediction:

1) Content Risk: Creating compelling games is a massive undertaking, but the ultimate prize for game publishers is establishing defensible IP that stands the test of time. Rather than pouring capital into costly and time-intensive R&D that yields uncertain results, industry leaders are able to make calculated financial decisions based on the proven track records of successful teams from existing franchises.

This doesn’t mean that every transaction will involve targets the size of Activision Blizzard or Zynga. In fact, over time the M&A pipeline will likely include a long tail of smaller studios that are successfully proving out audience engagement and retention (a popular strategy that is working quite well for companies like Stillfront Group and Embracer Group). As we highlighted in our deep dive of PC distribution platforms, building a content fortress of exclusive and accessible content is a viable way for companies with distribution platforms to acquire and retain an active customer base.

2) Portfolio Rebalancing: Given the challenges that come with creating great content, M&A will continue to be the most efficient way to explore new categories of gaming. For example, EA had historically lagged behind its peers in the mobile sector. Rather than spending years expanding the team, establishing new IP (or proving out mobile success of translating existing IP), and organically improving the offering, management was able to rapidly scale through the acquisitions of Glu and Playdemic. As new opportunities like VR and blockchain gaming emerge, this strategy will likely continue to be a focal point across the industry.

3) Evolving Monetization Models: Acquiring user bases is becoming increasingly important for large publishers as they focus on establishing subscription models for their content portfolio. While gamers’ loyalty has generally existed at the IP-level, subscription services such as Xbox Game Pass, PS Now, EA Play, and Ubisoft+ are now incentivizing publishers to focus on cross-selling opportunities. For example, onboarding players to a platform with zero marginal cost to try new games expands the horizon for in-game monetization and complementary services (i.e., Microsoft including xCloud in the Ultimate version of Game Pass). Adding more compelling content accelerates the virtuous cycle.

4) Macro Tailwinds: Following a brief slowdown during the uncertainty of the pandemic, record low interest rates and widespread availability of capital are driving an unprecedented wave of M&A transactions across the market. As of the most recent reporting period, major publishers have sizable cash balances that are ready to be deployed (Sony: $12.9b, EA: $1.6b, Ubisoft: $1.5b). The pieces are in place for publishers to execute their inorganic growth plans.

When we think about what this consolidation could look like over the coming years, there are a few opportunities that could make strategic sense:

• Sony: Microsoft’s announcement has put more pressure on Sony than on anyone else in the industry. With leading franchises like Call of Duty, Overwatch, and Diablo now belonging to the owner of the Xbox ecosystem, Sony will likely face a difficult decision to accept Game Pass and / or make their own significant content acquisition.
• Content Platforms: Competitors on the outside looking in such as EA and Ubisoft could combine to further reduce fragmentation and consolidate content across their individual subscription services. They could also partner with someone like Epic Games to create a powerhouse of content within the Epic Games ecosystem.
• Media Acquisitions: Traditional media leaders like Disney and Netflix could target publishers to expand their library of IP, build out their game content, and expand their share of attention from an attractive consumer demographic. This would also be a great strategy for implementing their transmedia strategy through acquiring talented teams.

Takeaway: M&A in gaming is not just a one-off consolidation of content; it is a strategic shift in the way publishers are expanding their IP portfolio and audience reach. The largest publishers will continue to seek out the best content, pay a premium, and amplify the content’s reach and engagement. This is a reality for every level of the industry ranging from Activision Blizzard to new mobile studios with a niche community. Cross-selling content, services, and hardware is fundamentally changing the industry’s incentive structure.