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(Registrant’s telephone number, including area code)
Securities
registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
iCommon Stock, par value
$0.000001 per share
iATVI
iThe Nasdaq Global Select Market
Indicate by check mark whether the
registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. iYes☒ No ☐
Indicate by check mark whether the
registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). iYes☒ No ☐
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act.
iLarge Accelerated Filer
☒
Non-accelerated
Filer
☐
Accelerated Filer
☐
Smaller
reporting company
i☐
Emerging growth company
i☐
If
an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes i☐ No ☒
This Quarterly Report on Form 10-Q contains, or incorporates by reference, certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements consist of any statement other than a recitation of historical facts and include, but are not limited to: (1) projections of revenues, expenses, income or loss, earnings or loss per share, cash flow, or other financial items; (2) statements of our plans and objectives, including those related to releases of products or services and restructuring activities; (3) statements of future financial or operating performance, including the impact of tax items thereon; and (4) statements of assumptions underlying such statements. Activision Blizzard, Inc. generally uses words such as “outlook,”“forecast,”“will,”“could,”“should,”“would,”“to be,”“plan,”“plans,”“believes,”“may,”“might,”“expects,”“intends,”“intends as,”“anticipates,”“estimate,”“future,”“positioned,”“potential,”“project,”“remain,”“scheduled,”“set to,”“subject to,”“upcoming,” and other similar expressions to help identify forward-looking statements. Forward-looking statements are subject to business and economic risks, reflect management’s current expectations, estimates, and projections about our business, and are inherently uncertain and difficult to predict.
We caution that a number of important factors could cause our actual future results and other future circumstances to differ materially from those expressed
in any forward-looking statements. Such factors include, but are not limited to: our ability to consistently deliver popular, high-quality titles in a timely manner; our ability to satisfy the expectations of consumers with respect to our brands, games, services, and/or business practices; concentration of revenue among a small number of titles; the continued growth in the scope and complexity of our business, including the diversion of management time and attention to issues relating to the operations of our newly acquired or started businesses and the potential impact of our expansion into new businesses on our existing businesses; our ability to realize the expected financial and operational benefits of, and effectively manage, our recently announced restructuring plans; increasing importance of revenues derived from digital distribution channels; risks associated with the retail sales business model; substantial influence of third-party platform providers over our
products and costs; success and availability of video game consoles manufactured by third parties; risks associated with the free-to-play business model, including dependence on a relatively small number of consumers for a significant portion of revenues and profits from any given game; risks and costs associated with legal proceedings; changes in tax rates or exposure to additional tax liabilities, as well as the outcome of current or future tax disputes; rapid changes in technology and industry standards; competition, including from other forms of entertainment; our ability to sell products at assumed pricing levels; our ability to attract, retain, and motivate skilled personnel; reliance on external developers for development of some of our software products; the amount of our debt and the limitations imposed by the covenants in the agreements governing our debt; counterparty risks relating to customers, licensees, licensors, and manufacturers; intellectual property
claims; piracy and unauthorized copying of our products; risks and uncertainties of conducting business outside the United States (“U.S.”); fluctuations in currency exchange rates; increasing regulation of our business, products, and distribution in key territories; compliance with continually evolving laws and regulations concerning data privacy; potential data breaches and other cybersecurity risks; and the other factors identified in “Risk Factors” included in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2018.
The forward-looking statements contained herein are based on information available to Activision Blizzard, Inc. as of the date of this filing and we assume no obligation to update any such forward-looking statements. Although
these forward-looking statements are believed to be true when made, they may ultimately prove to be incorrect. These statements are not guarantees of our future performance and are subject to risks, uncertainties, and other factors, some of which are beyond our control and may cause actual results to differ materially from current expectations.
Activision Blizzard, Inc.’s names, abbreviations thereof, logos, and product and service designators are all either the registered or unregistered trademarks or trade names of Activision Blizzard, Inc. All other product or service names are the property of their respective owners. All dollar amounts referred to in, or contemplated by, this Quarterly Report on Form 10-Q refer to U.S. dollars, unless otherwise explicitly stated to the contrary.
Common stock, $0.000001 par value, 2,400,000,000 shares authorized, 1,196,802,874 and 1,192,093,991 shares issued at September 30, 2019 and December 31, 2018, respectively
Notes to Condensed Consolidated Financial Statements
(Unaudited)
1.iDescription
of Business and Basis of Consolidation and Presentation
Activision Blizzard, Inc. is a leading global developer and publisher of interactive entertainment content and services. We develop and distribute content and services on video game consoles, personal computers (“PC”s), and mobile devices. We also operate esports leagues and events and create film and television content based on our intellectual property. The terms “Activision Blizzard,” the “Company,”“we,”“us,” and “our” are used to refer collectively to Activision Blizzard, Inc. and its subsidiaries.
The Company
was originally incorporated in California in 1979 and was reincorporated in Delaware in December 1992. In connection with the 2008 business combination by and among the Company (then known as Activision, Inc.), Vivendi S.A., and Vivendi Games, Inc., then an indirect wholly-owned subsidiary of Vivendi S.A., we were renamed Activision Blizzard, Inc.
Our Segments
Based upon our organizational structure, we conduct our business through ithree
reportable segments, as follows:
(i) Activision Publishing, Inc.
Activision Publishing, Inc. (“Activision”) is a leading global developer and publisher of interactive software products and entertainment content, particularly for the console platform. Activision primarily delivers content through retail and digital channels, including full-game and in-game sales, as well as by licensing software to third-party or related-party companies that distribute Activision products. Activision develops, markets, and sells products primarily based on our internally developed intellectual properties, as well as some licensed properties. Activision’s key product franchise is Call of Duty®, a first-person shooter for the console and
PC platforms. Also, on October 1, 2019, in collaboration with Tencent, Activision released Call of Duty: Mobile for the mobile platform, including for Google Inc.’s (“Google”) Android and Apple Inc.’s (“Apple”) iOS.
In 2010, Activision entered into an exclusive relationship with Bungie, Inc. (“Bungie”) to publish games in the Destiny franchise. Effective December 31, 2018, Activision and Bungie mutually agreed to terminate their publishing relationship related to the Destiny franchise. As part of this termination, Activision agreed to transfer its publishing rights for the Destiny franchise to Bungie in exchange for cash and Bungie’s assumption of on-going customer obligations of Activision. Activision no longer
has any material rights or obligations related to the Destiny franchise.
(ii) Blizzard Entertainment, Inc.
Blizzard Entertainment, Inc. (“Blizzard”) is a leading global developer and publisher of interactive software products and entertainment content, particularly for the PC platform. Blizzard primarily delivers content through retail and digital channels, including subscriptions, full-game, and in-game sales, as well as by licensing software to third-party or related-party companies that distribute Blizzard products. Blizzard also maintains a proprietary online gaming service, Blizzard Battle.net®, which facilitates digital distribution of Blizzard content and selected Activision content, online social connectivity,
and the creation of user-generated content. Blizzard also includes the activities of the Overwatch LeagueTM, the first major global professional esports league with city-based teams, and our Major League Gaming (“MLG”) business, which is responsible for various esports events and serves as a multi-platform network for Activision Blizzard esports content.
Blizzard’s key product franchises include: World of Warcraft®, a subscription-based massive multi-player online role-playing game for the PC platform; StarCraft®, a real-time strategy franchise for the PC platform; Diablo®, an action role-playing franchise
for the PC and console platforms; Hearthstone®, an online collectible card franchise for the PC and mobile platforms; and Overwatch®, a team-based first-person shooter for the PC and console platforms.
(iii) King Digital Entertainment
King Digital Entertainment (“King”) is a leading global developer and publisher of interactive entertainment content and services, primarily for the mobile platform, including for Google’s Android and Apple’s iOS. King also distributes its content and services on the PC platform, primarily via Facebook. King’s games are free to play; however, players can acquire in-game items, either with virtual currency or real currency,
and we continue to focus on in-game advertising as a growing source of additional revenue.
King’s key product franchises, all of which are for the mobile and PC platforms, include: Candy Crush™, which features “match three” games; Farm Heroes™, which also features “match three” games; and Bubble Witch™, which features “bubble shooter” games.
Other
We also engage in other businesses that do not represent reportable segments, including:
•
the
Activision Blizzard Studios (“Studios”) business, which is devoted to creating original film and television content based on our library of globally recognized intellectual properties, and which, in September 2018, released the third season of the animated TV series Skylanders™ Academy on Netflix; and
•
the Activision Blizzard Distribution (“Distribution”) business, which consists of operations in Europe that provide warehousing, logistics, and sales distribution services to third-party publishers of interactive entertainment software, our own publishing operations, and manufacturers of interactive entertainment hardware.
i
Basis
of Consolidation and Presentation
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission and accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim reporting. Accordingly, certain notes or other information that are normally required by U.S. GAAP have been condensed or omitted if they substantially duplicate the disclosures contained in our annual audited consolidated financial statements. Additionally, the year-end condensed consolidated balance sheet data was derived from audited financial statements but does not include all disclosures required by U.S. GAAP. Accordingly, the unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements
and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2018.
The preparation of the condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements and accompanying notes. In the opinion of management, all adjustments considered necessary for the fair statement of our financial position and results of operations in accordance with U.S. GAAP (consisting of normal recurring adjustments) have been included in the accompanying unaudited condensed consolidated financial statements. Actual results could differ from these estimates and assumptions.
The
accompanying condensed consolidated financial statements include the accounts and operations of the Company. All intercompany accounts and transactions have been eliminated.
The Company considers events or transactions that occur after the balance sheet date, but before the financial statements are issued, to provide additional evidence relative to certain estimates or to identify matters that require additional disclosures.
During the three months ended March 31, 2019, we identified an error principally related to the initial recognition of global intangible
low-taxed income of foreign subsidiaries income taxes which should have been recorded in the three months and year ended December 31, 2018. Income tax expense for the three months and year ended December 31, 2018 should have been reduced by $i35
million. This amount is not material to the consolidated financial statements for the year ended December 31, 2018, and we will revise our 2018 consolidated financial statements to correct this matter in our Annual Report on Form 10-K for the year ending December 31, 2019. Our condensed consolidated balance sheet as of December 31, 2018, as presented in this Form 10-Q, has been revised to reflect the correction of this error.
Supplemental Cash Flow Information
i
The
beginning and ending cash and cash equivalents and restricted cash reported within our condensed consolidated statement of cash flows included restricted cash amounts as follows (amounts in millions):
Adoption
of Accounting Standards Codification (“ASC”) 842: Leases
In February 2016, the Financial Accounting Standards Board (“FASB”) issued new guidance related to the accounting for leases. The new standard replaces all current U.S. GAAP guidance on this topic. The new standard, among other things, requires a lessee to classify a lease as either an operating or financing lease, and to recognize a lease liability and a right-of-use (“ROU”) asset for its leases. On January 1, 2019, we adopted the new lease accounting standard. As a result, we have updated our significant accounting policy disclosure to include our accounting policy for leases under the new standard. Refer to Note 3 for information about the impact of adoption on our condensed consolidated financial statements.
i
Leases
We
determine if an arrangement is or contains a lease at contract inception. In certain of our lease arrangements, primarily those related to our data center arrangements, judgment is required in determining if a contract contains a lease. For these arrangements, there is judgment in evaluating if the arrangement provides us with an asset that is physically distinct, or that represents substantially all of the capacity of the asset, and if we have the right to direct the use of the asset. Lease assets and liabilities are recognized based on the present value of future lease payments over the lease term at the commencement date. Included in the lease liability are future lease payments that are fixed, in-substance fixed, or payments based on an index or rate known at the commencement date of
the lease. Variable lease payments are recognized as lease expenses as incurred, and generally relate to variable payments made based on the level of services provided by the landlords of our leases. The operating lease ROU asset also includes any lease payments made prior to commencement, initial direct costs incurred, and lease incentives received. As most of our leases do not provide an implicit rate, we generally use our incremental borrowing rate in determining the present value of future payments. The incremental borrowing rate represents the rate required to borrow funds over a similar term to purchase the leased asset, and is based on the information available at the commencement date of the lease. For leased assets with similar lease terms and asset type we applied a portfolio approach in determining a single incremental borrowing rate to apply to the leased assets.
In
determining our lease liability, the lease term includes options to extend or terminate the lease when it is reasonably certain that we will exercise such option. For operating leases, the lease expense for minimum lease payments is recognized on a straight-line basis over the lease term. Finance lease assets are depreciated on a straight-line basis over the estimated life of the asset, not to exceed the length of the lease, with interest expense associated with finance lease liabilities recorded using the effective interest method. Leases with an initial term of 12 months or less are not recorded on the balance sheet, and we recognize lease expense for these leases on a straight-line basis over the lease term.
We have lease agreements with lease and non-lease components. For our real estate, server and data center, and event production and broadcasting equipment leases, we
elected the practical expedient to account for the lease and non-lease components as a single lease component. In all other lease arrangements, we account for lease and non-lease components separately. Additionally, for certain leases that have a group of leased assets with similar characteristics in size and composition, we may apply a portfolio approach to effectively account for the operating lease ROU assets and liabilities.
Operating lease ROU assets are presented in “Other assets” and operating lease liabilities are presented in “Accrued expenses and other current liabilities” and “Other liabilities” on our condensed consolidated balance sheet.
Finance lease ROU assets are presented in “Property and equipment, net” and finance lease liabilities are
presented in “Accrued expenses and other current liabilities” and “Other liabilities” on our condensed consolidated balance sheet.
/
3.iRecently
Issued Accounting Pronouncements
Recently Adopted Accounting Pronouncements
Leases
As noted in Note 2 above, we adopted the new lease accounting standard effective January 1, 2019. We elected to apply an optional adoption method, which uses the effective date as the initial date of application on transition with no retrospective adjustments to prior periods. Additionally, we elected to apply the package of transition practical expedients which permitted us to, among other things, (1) not reassess if existing contracts contained leases under the
new lease accounting standard and (2) carry forward our historical lease classifications.
The impact from the adoption of the new lease accounting standard to our condensed consolidated balance sheet at January 1,
2019, was as follows (amounts in millions):
The
adoption of this standard did not have an impact on our condensed consolidated statement of operations or condensed consolidated statements of cash flows.
Recent Accounting Pronouncements Not Yet Adopted
Goodwill
In January 2017, the FASB issued new guidance that eliminates Step 2 from the goodwill impairment test. Instead, if an entity forgoes a Step 0 test, that entity will be required to perform its annual or interim goodwill impairment test by comparing the fair value of a reporting unit, as determined in Step 1 from the goodwill impairment test, with its carrying amount and recognize an impairment charge, if any, for the amount by which the carrying amount exceeds the reporting unit’s fair
value, not to exceed the total amount of goodwill allocated to the reporting unit. The new standard is effective for fiscal years beginning after December 15, 2019, and should be applied prospectively. Early adoption is permitted. The effect of adoption should be reflected as of the beginning of the fiscal year of adoption. We do not currently expect this new accounting guidance to have an impact on our financial statements upon adoption.
Cloud Computing Arrangements
In August 2018, the FASB issued new guidance related to a customer’s accounting for implementation costs incurred in a cloud computing arrangement (i.e. hosting arrangement) that is a service contract.
The new guidance requires customers to capitalize implementation costs for these arrangements by applying the same criteria that are utilized for existing internal-use software guidance. The capitalized costs are required to be amortized over the associated term of the arrangement, generally on a straight-line basis, with amortization of these costs presented in the same financial statement line item as other costs associated with the arrangement. The new standard is effective for fiscal years beginning after December 15, 2019, and can be applied retrospectively or prospectively. Early adoption is permitted. We are evaluating the impact, if any, of adopting this new accounting guidance on our financial statements.
Financial Instruments - Credit Losses
In
June 2016, the FASB issued new guidance related to accounting for credit losses on financial instruments. The update replaces the existing incurred loss impairment model with an expected loss model which requires the use of historical and forward-looking information to calculate credit loss estimates. It also eliminates the concept of other-than-temporary impairment and requires credit losses related to available-for-sale debt securities to be recorded through an allowance for credit losses rather than as a reduction in the amortized cost basis of the securities. These changes will generally result in earlier recognition of credit losses. The new standard is effective for fiscal years beginning after December 15, 2019, and will be applied on a modified retrospective basis, with the cumulative effect of adoption recorded as an adjustment to retained earnings. We are evaluating the impact, if any,
of adopting this new accounting guidance on our financial statements, however, our preliminary conclusion is that the new guidance will not have a material impact on our financial statements and related disclosures.
Beginning
with the first quarter of 2019, the balances of the customer base intangible assets have been removed as such amounts were fully amortized in the prior year.
Amortization
expense of our intangible assets was $i50 million and $i152 million for the three and nine
months ended September 30, 2019, respectively. Amortization expense of our intangible assets was $i84 million and $i280
million for the three and nine months ended September 30, 2018, respectively.
i
At September 30, 2019, future amortization of definite-lived intangible assets is estimated as follows (amounts in millions):
The FASB literature regarding fair value measurements for certain assets and liabilities establishes a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. This hierarchy requires entities to maximize the use of “observable inputs” and minimize the use of “unobservable inputs.” The three levels of inputs used to measure fair value are as follows:
•
Level 1—Quoted prices in active markets for identical assets or liabilities;
•
Level 2—Observable
inputs other than quoted prices included in Level 1, such as quoted prices for similar assets or liabilities in active markets or other inputs that are observable or can be corroborated by observable market data; and
Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities, including certain pricing models, discounted cash
flow methodologies, and similar techniques that use significant unobservable inputs.
Fair Value Measurements on a Recurring Basis
i
The table below segregates all of our financial assets and liabilities that are measured at fair value on a recurring basis into the most appropriate level within the fair value hierarchy based on
the inputs used to determine the fair value at the measurement date (amounts in millions):
At
September 30, 2019, our Cash Flow Hedges have remaining maturities of ithree months or less. Additionally, $i2
million of net realized but unrecognized gains are recorded within “Accumulated other comprehensive income (loss)” at September 30, 2019 for Cash Flow Hedges that had settled but were deferred and will be amortized into earnings, along with the associated hedged revenues. Such amounts will be reclassified into earnings within the next 12 months.
i
The
amount of pre-tax net realized gains (losses) associated with our Cash Flow Hedges that were reclassified out of “Accumulated other comprehensive income (loss)” and into earnings was as follows (amounts in millions):
For
the three and nine months ended September 30, 2019 and 2018, pre-tax net gains (losses) associated with these forward contracts were recorded in “General and administrative expenses” and were not material.
Fair Value Measurements on a Non-Recurring Basis
We measure the fair value of certain assets on a non-recurring basis, generally annually or when events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable.
During
the three months ended June 30, 2019, we recorded an upward adjustment of $i38 million to an investment in equity securities, which has been historically recorded at cost, based on an observable and orderly transaction in the common stock of the investee. We recognized a corresponding unrealized gain within “Interest and other expense (income), net” in our condensed
consolidated statement of operations. As of September 30, 2019, the carrying value of the investment is $i42 million and is recorded in “Other assets” on our condensed consolidated balance sheet. We classify this investment as Level 3 in the fair value hierarchy as we estimated the value based on valuation methods using the observable transaction price in a market with limited
activity.
For the three and nine months ended September 30, 2019 and 2018, there were no impairment charges related to assets that are measured on a non-recurring basis.
9.iDeferred
revenues
We record deferred revenues when cash payments are received or due in advance of the fulfillment of our associated performance obligations. The opening balance of deferred revenues as of January 1, 2019 and the ending balance as of September 30, 2019, were $i1.6 billion
and $i0.8 billion, respectively, including our current and non-current balances. For the nine months ended September 30, 2019, the additions to our deferred revenues balance were primarily due to cash payments received or due in advance of satisfying our performance obligations, while the reductions to our deferred revenues balance were primarily due to the recognition of revenues upon fulfillment of our
performance obligations, both of which were in the ordinary course of business. During the three and nine months ended September 30, 2019, $i0.1 billion and $i1.4
billion of revenues, respectively, were recognized that were included in the deferred revenues balance at December 31, 2018. During the three and nine months ended September 30, 2018, $i0.1 billion and $i1.6
billion of revenues, respectively, were recognized that were included in the deferred revenues balance at January 1, 2018, as adjusted for the adoption of the new revenue standard in the prior year.
As of September 30, 2019, the aggregate amount of contracted revenues allocated to our unsatisfied performance obligations is $i2.5
billion, which includes our deferred revenues balances and amounts to be invoiced and recognized as revenue in future periods. We expect to recognize approximately $i1.4 billion over the next 12 months, $i0.4
billion in the subsequent 12-month period, and the remainder thereafter. This balance does not include an estimate for variable consideration arising from sales-based royalty license revenue in excess of the contractual minimum guarantee.
Our
lease arrangements are primarily for: (1) corporate, administrative, and development studio offices; (2) data centers and server equipment; and (3) live event production equipment. Our existing leases have remaining lease terms ranging from ione year to i10
years. In certain instances, such leases include one or more options to renew, with renewal terms that generally extend the lease term by ione year to ifive years
for each option. The exercise of lease renewal options is generally at our sole discretion. Additionally, the majority of our leases are classified as operating leases; our financing leases are not material.
i
Components of our lease costs are as follows (amounts in millions):
Future
undiscounted lease payments for our operating lease liabilities, and a reconciliation of these payments to our operating lease liabilities at September 30, 2019, are as follows (amounts in millions):
As of September 30,
2019, we have entered into facility leases that have not yet commenced with future lease payments of approximately $i57 million. These leases are expected to commence within the next 12 months and will have lease terms ranging from itwo
years to ifive years.
Operating
lease ROU assets and liabilities recorded on our condensed consolidated balance sheet as of September 30, 2019, were as follows (amounts in millions):
As of September 30, 2019 and December 31, 2018, we had $i1.5 billion available under a revolving credit facility (the “Revolver”) pursuant to a credit agreement entered into on October
11, 2013 (as amended thereafter and from time to time, the “Credit Agreement”). To date, we have not drawn on the Revolver, and we were in compliance with the terms of the Credit Agreement as of September 30, 2019.
Refer to Note 13 contained in our Annual Report on Form 10-K for the year ended December 31, 2018 for further details regarding the Credit Agreement, its key terms, and previous amendments made to it.
$i650 million
of i2.3% unsecured senior notes due September 2021 (the “2021 Notes”);
•
$i400
million of i2.6% unsecured senior notes due June 2022 (the “2022 Notes”);
•
$i850
million of i3.4% unsecured senior notes due September 2026 (the “2026 Notes”);
•
$i400
million of i3.4% unsecured senior notes due June 2027 (the “2027 Notes”); and
•
$i400
million of i4.5% unsecured senior notes due June 2047 (the “2047 Notes”, and together with the 2021 Notes, the 2022 Notes, the 2026 Notes, and the 2027 Notes, the “Notes”).
The Notes are general senior obligations of the
Company and rank pari passu in right of payment to all of the Company’s existing and future senior indebtedness, including the Revolver described above. The Notes are not secured and are effectively junior to any of the Company’s existing and future indebtedness that is secured to the extent of the value of the collateral securing such indebtedness. We were in compliance with the terms of the Notes as of September 30, 2019.
Interest is payable semi-annually in arrears on March 15 and September 15 of each year for the 2021 Notes and the 2026 Notes, and payable semi-annually in arrears on June 15 and December 15 of each year for the 2022 Notes, the 2027 Notes, and the 2047 Notes. Accrued interest payable is recorded within “Accrued expenses and other liabilities” in our condensed consolidated balance sheets. As of September 30, 2019 and December 31, 2018, we had accrued interest payable of $i14
million and $i15 million, respectively, related to the Notes.
Refer to Note 13 contained in our Annual Report on Form 10-K for the year ended December 31, 2018 for further details regarding key terms under our indentures
that govern the Notes.
Interest Expense and Financing Costs
Fees and discounts associated with the issuance of our debt instruments are recorded as debt discount, which reduces their respective carrying values, and are amortized over their respective terms. Amortization expense is recorded within “Interest and other expense (income), net” in our condensed consolidated statement of operations.
For the three and nine months ended September 30, 2019, interest expense was $i21
million and $i64 million, respectively, and amortization of the debt discount and deferred financing costs was $i1
million and $i3 million, respectively. For the three and nine months ended September 30, 2018, interest expense was $i32
million and $i113 million, respectively, and amortization of the debt discount and deferred financing costs was $i1
million and $i5 million, respectively.
i
A summary of our outstanding debt is as follows (amounts in millions):
As of September 30, 2019, the scheduled maturities and contractual principal repayments of our debt for each of the five succeeding years and thereafter are as follows (amounts in millions):
With
the exception of the 2047 Notes, using Level 2 inputs (i.e., observable market prices in less-than-active markets) at September 30, 2019, the carrying values of the Notes approximated their fair values, as the interest rates were similar to the current rates at which we could borrow funds over the selected interest periods. At September 30, 2019, based on Level 2 inputs, the fair value of the 2047 Notes was $i454
million.
Using Level 2 inputs at December 31, 2018, the carrying values of the 2021 Notes and the 2022 Notes approximated their fair values, as the interest rates were similar to the current rates at which we could borrow funds over the selected interest periods. At December 31, 2018, based on Level 2 inputs, the fair values of the 2026 Notes, the 2027 Notes, and the 2047 Notes were $i800
million, $i376 million, and $i360
million, respectively.
12.iAccumulated Other Comprehensive Income (Loss)
i
The
components of accumulated other comprehensive income (loss) were as follows (amounts in millions):
Currently, we have ithree
reportable segments—Activision, Blizzard, and King. Our operating segments are consistent with the manner in which our operations are reviewed and managed by our Chief Executive Officer, who is our chief operating decision maker (“CODM”). The CODM reviews segment performance exclusive of: the impact of the change in deferred revenues and related cost of revenues with respect to certain of our online-enabled games; share-based compensation expense; amortization of intangible assets as a result of purchase price accounting; fees and other expenses (including legal fees, expenses, and accruals) related to acquisitions, associated integration activities, and financings; certain restructuring and related costs; and certain other non-cash charges. The CODM does not review any information regarding total assets on an operating segment basis, and accordingly, no disclosure is made with respect thereto.
Our
operating segments are also consistent with our internal organizational structure, the way we assess operating performance and allocate resources, and the availability of separate financial information. We do not aggregate operating segments.
i
Information on reportable segment net revenues and operating income for the three months ended September 30, 2019 and 2018,
are presented below (amounts in millions):
Information on reportable segment net revenues and operating income for the nine months ended September 30, 2019 and 2018, are presented below (amounts in millions):
Intersegment
revenues reflect licensing and service fees charged between segments.
Reconciliations of total segment net revenues and total segment operating income to consolidated net revenues and consolidated income before income tax expense are presented in the table below (amounts in millions):
Includes other income and expenses from operating segments managed outside the reportable segments, including our Studios and Distribution businesses. Also includes unallocated corporate income and expenses.
(2)
Reflects the net effect from recognition (deferral) of deferred net revenues, along with related cost of revenues, on certain of our online-enabled products.
(3)
Intersegment
revenues reflect licensing and service fees charged between segments.
(4)
Reflects restructuring initiatives, primarily severance and other restructuring-related costs.
i
Net
revenues by distribution channel, including a reconciliation to each of our reportable segment’s revenues, for the three months ended September 30, 2019 and 2018, were as follows (amounts in millions):
Net
revenues by distribution channel, including a reconciliation to each of our reportable segment’s revenues, for the nine months ended September 30, 2019 and 2018, were as follows (amounts in millions):
Net
revenues from “Digital online channels” include revenues from digitally-distributed subscriptions, downloadable content, microtransactions, and products, as well as licensing royalties.
(2)
Net revenues from “Other” include revenues from our Studios and Distribution businesses, as well as revenues from MLG and the Overwatch League.
(3)
Intersegment revenues reflect licensing and service fees charged between
segments.
Geographic information presented below is based on the location of the paying customer. Net revenues by geographic region, including a reconciliation
to each of our reportable segment’s net revenues, for the three months ended September 30, 2019 and 2018, were as follows (amounts in millions):
Geographic information presented below is based on the location of the paying customer. Net revenues by geographic region, including a reconciliation to each of our reportable segment’s net revenues, for the nine months ended September 30, 2019 and 2018, were as follows (amounts in millions):
“EMEA” consists of the Europe, Middle East, and Africa geographic regions.
(2)
Intersegment revenues reflect licensing and service fees charged between segments.
The Company’s net revenues in the U.S. were i46%
of consolidated net revenues for both the three months ended September 30, 2019 and 2018. The Company’s net revenues in the U.K. were i13%
of consolidated net revenues for both the three months ended September 30, 2019 and 2018. No other country’s net revenues exceeded 10% of consolidated net revenues for either the three months ended September 30, 2019 or 2018.
The Company’s net revenues in the U.S. were i48%
and i47% of consolidated net revenues for the nine months ended September 30, 2019 and 2018, respectively. The
Company’s net revenues in the U.K. were i10% and i11%
of consolidated net revenues for the nine months ended September 30, 2019 and 2018, respectively. No other country’s net revenues exceeded 10% of consolidated net revenues for either the nine months ended September 30, 2019 or 2018.
i
Net
revenues by platform, including a reconciliation to each of our reportable segment’s net revenues, for the three months ended September 30, 2019 and 2018, were as follows (amounts in millions):
Net revenues by platform, including a reconciliation to each of our reportable segment’s net revenues, for the nine months ended September 30, 2019 and 2018, were as follows (amounts in millions):
Net
revenues from “Mobile and ancillary” include revenues from mobile devices, as well as non-platform specific game-related revenues, such as standalone sales of physical merchandise and accessories.
(2)
Net revenues from “Other” include revenues from our Studios and Distribution businesses, as well as revenues from MLG and the Overwatch League.
(3)
Intersegment revenues reflect licensing and service fees charged
between segments.
i
Long-lived assets by geographic region were as follows (amounts in millions):
The
only long-lived assets that we classify by region are our long-term tangible fixed assets, which consist of property, plant, and equipment assets; all other long-term assets are not allocated by location.
On
February 12, 2019, the Company committed to a Board-authorized restructuring plan under which the Company aims to refocus its resources on its largest opportunities and to remove unnecessary levels of complexity and duplication from certain parts of the business. We have been, and will continue:
•
increasing our investment in development for our largest, internally-owned franchises—across upfront releases, in-game content, mobile, and geographic expansion;
•
reducing
certain non-development and administrative-related costs across our business; and
•
integrating our global and regional sales and “go-to-market,” partnerships, and sponsorships capabilities across the business, which we believe will enable us to provide better opportunities for talent, and greater expertise and scale on behalf of our business units.
The restructuring actions are in process and are largely expected to be completed by the end of 2019, although the timing of cash payments may continue into 2020.
i
The
following table summarizes accrued restructuring and related costs included in “Accrued expenses and other liabilities” in our condensed consolidated balance sheet (amounts in millions):
Adjustments relate to non-cash charges included in “Costs charged to expense” for the write-down of assets from canceled projects during the three months ended March 31, 2019, and the write-down of lease facility assets, inclusive of lease right-of-use assets and associated fixed assets, that were vacated during the three months ended June 30, 2019 and September 30, 2019.
Includes charges related to operating segments managed outside the reportable segments, including our Studios and Distribution businesses. Also includes restructuring charges for our corporate and administrative functions.
During the three months ended September 30, 2019, we also recorded $i4 million
to write-down inventory resulting from changes to certain of our consumer product activities as part of our restructuring actions, whereby those activities will now operate under a licensing business model rather than being direct sales. This write-down is recorded within “Cost of revenues—product sales: Product costs” in our condensed consolidated statement of operations.
We expect to incur aggregate pre-tax restructuring charges of approximately $i150
million in 2019 associated with the restructuring plan, which includes the inventory write-down discussed above. These charges will primarily relate to severance (approximately i55% of the aggregate charge), including, in many cases, amounts above those that are legally required, facilities costs (approximately i20%
of the aggregate charge), and other asset write-downs and costs (approximately i25% of the aggregate charge). A majority of the total pre-tax charge associated with the restructuring will be paid in cash using amounts on hand and the outlays are expected to be largely incurred throughout 2019, with the remainder continuing into 2020.
The
total expected pre-tax restructuring charges related to the restructuring plan by segment, inclusive of amounts already incurred, are presented below (amounts in millions):
Includes charges related to operating segments managed outside the reportable segments, including our Studios and Distribution businesses. Also includes restructuring charges for our corporate and administrative functions.
15.
i
Interest
and Other Expense (Income), Net
i
Interest and other expense (income), net is comprised of the following (amounts in millions):
We account for our provision for income taxes in accordance with ASC 740, Income Taxes, which requires an estimate of the annual effective tax rate for the full year to be applied to the interim period, taking into account year-to-date amounts and projected results for the full year. The provision for income taxes represents
federal, foreign, state, and local income taxes. Our effective tax rate could be different from the statutory U.S. income tax rate due to: the effect of state and local income taxes; tax rates that apply to our foreign income (including U.S. tax on foreign income); research and development credits; and certain nondeductible expenses. Our effective tax rate could fluctuate significantly from quarter to quarter based on recurring and nonrecurring factors including, but not limited to: variations in the estimated and actual level of pre-tax income or loss by jurisdiction; changes in enacted tax laws and regulations, and interpretations thereof, including with respect to tax credits and state and local income taxes; developments in tax audits and other matters; recognition of excess tax benefits and tax deficiencies from share-based payments; and certain nondeductible expenses. Changes in judgment from the evaluation of new information resulting in the recognition, derecognition,
or remeasurement of a tax position taken in a prior annual period are recognized separately in the quarter of the change.
The income tax expense of $i45 million for the three months ended September 30, 2019, reflects an effective tax rate of i18%,
which is higher than the effective tax rate of (i23)% for the three months ended September 30, 2018. The increase is primarily due to a discrete tax benefit recognized in the prior year in connection with adjustments made to the provisional amounts initially recorded in connection with tax reform legislation known as the Tax Cuts and Jobs Act enacted in December
22, 2017 (the “U.S. Tax Reform Act”), lower excess tax benefits from share-based payments in the current year, and an increase in U.S. tax on foreign earnings.
The income tax expense of $i208 million for the nine months ended September 30, 2019, reflects an effective tax rate of i18%,
which is higher than the effective tax rate of i2% for the nine months ended September 30, 2018. The increase is due to a discrete tax benefit recognized in the prior year in connection with an audit settlement with the Internal Revenue Service (“IRS”), a discrete tax benefit recognized in the prior year in connection with adjustments made to the provisional amounts
initially recorded in connection with the U.S. Tax Reform Act, and lower excess tax benefits from share-based payments in the current year. This increase was partially offset by a valuation allowance recorded in the prior year with regard to California research and development credit carryforwards (“CA R&D Credits”).
The effective tax rate of i18% for both the three and nine
months ended September 30, 2019, is lower than the U.S. statutory rate of i21%, primarily due to foreign earnings taxed at lower statutory rates as compared to domestic earnings, which is partially offset by U.S. tax on foreign earnings, and the recognition of federal research and development credits.
Activision
Blizzard’s 2009 through 2018 tax years remain open to examination by certain major taxing jurisdictions to which we are subject. The IRS is currently examining our federal tax returns for the 2012 through 2016 tax years. We also have several state and non-U.S. audits pending, including the French audit discussed below. In addition, we are currently seeking a multilateral agreement among the tax authorities in the U.K., Sweden, and other relevant jurisdictions with respect to King’s transfer pricing for tax years dating back to 2013. While the outcome of any discussions aimed at such an agreement remains uncertain, they could result in an agreement that changes the allocation of profits and losses between these and other relevant jurisdictions or a failure to reach an agreement that results in unilateral adjustments to the amount and timing of taxable income in the jurisdictions in which King operates.
In
December 2018, we received a decision from the Swedish Tax Agency (“STA”) informing us of an audit assessment of a Swedish subsidiary of King for the 2016 tax year (“Initial Decision”). The Initial Decision described the basis for issuing a transfer pricing assessment of approximately i3.5kr billion (approximately $i359
million), primarily concerning an alleged intercompany asset transfer. On June 17, 2019, we received a reassessment from the STA (“Reassessment”) which changed the Initial Decision based on a revision of the transfer pricing approach reflected in King’s 2016 Swedish tax return and removal of the alleged intercompany asset transfer that was the basis of the Initial Decision. The STA also, at the same time, reassessed the 2017 tax year on the same transfer pricing basis as 2016. The transfer pricing approach reflected in the Reassessment for both 2016 and 2017 remains subject to further review by taxing authorities in other jurisdictions. In July 2019, the Company made a payment to the STA for the Reassessment for the 2016 and 2017 tax years, which did not result in a significant impact to our condensed
consolidated financial statements.
In December 2017, we received a Notice of Reassessment from the French Tax Authority (“FTA”) related to transfer pricing for intercompany transactions involving one of our French subsidiaries for the 2011 through 2013 tax years. The total assessment, including penalties and interest, was approximately €i571
million (approximately $i625 million). We disagree with the proposed assessment and continue to vigorously contest it. We believe our tax provisions at September 30, 2019, were appropriate. Until such time as this matter is ultimately resolved we could be subject to significant additional tax liabilities. In addition to the risk
of additional tax for the 2011 through 2013 tax years, if the FTA were to seek adjustments of a similar nature for subsequent years, we could be subject to significant additional tax liabilities.
In October 2019, we completed an intra-entity transfer of certain intellectual property rights to one of our subsidiaries in the U.K. The transfer did not result in a taxable gain; however, our U.K. subsidiary received a step-up in tax basis. We are currently assessing the tax impacts associated with this transfer, including its impact to deferred taxes. We expect to record a one-time benefit for the recognition of a deferred tax asset in the U.K. related to the amortizable tax basis in the transferred intellectual property, partially offset by a related deferred tax liability for U.S. taxes on
foreign earnings. The net tax impact of this intra-entity asset transfer will be recorded in the quarter ending December 31, 2019. While this one-time impact may be material to our financial statements, we do not expect the transfer to materially affect cash taxes or operating cash flows in 2019.
In addition, certain of our subsidiaries are under examination or investigation, or may be subject to examination or investigation, by tax authorities in various jurisdictions. These proceedings may lead to adjustments or proposed adjustments to our taxes or provisions for uncertain tax positions. Such proceedings may have a material adverse effect on the Company’s
consolidated financial position, liquidity, or results of operations in the earlier of the period or periods in which the matters are resolved and in which appropriate tax provisions are taken into account in our financial statements. If we were to receive a materially adverse assessment from a taxing jurisdiction, we would plan to vigorously contest it and consider all of our options, including the pursuit of judicial remedies.
We regularly assess the likelihood of adverse outcomes resulting from these examinations and monitor the progress of ongoing discussions with tax authorities in determining the appropriateness of our tax provisions. The final resolution of the Company’s global tax disputes is uncertain. There is significant judgment required in the analysis of disputes, including the
probability determination and estimation of the potential exposure. Based on current information, in the opinion of the Company’s management, the ultimate resolution of these matters is not expected to have a material adverse effect on the Company’s consolidated financial position, liquidity or results of operations, except as noted above.
17.iComputation
of Basic/Diluted Earnings Per Common Share
i
The following table sets forth the computation of basic and diluted earnings per common share (amounts in millions, except per share data):
The vesting of certain of our employee-related restricted stock units and options is contingent upon the satisfaction of pre-defined performance measures. The shares underlying these equity awards are included in the weighted-average dilutive common shares only if the performance measures are met as of the end of the reporting period. Additionally, potential common shares are not included in the denominator of the diluted earnings per common share calculation when the inclusion of such shares would be anti-dilutive.
i
Weighted-average
shares excluded from the computation of diluted earnings per share were as follows (amounts in millions):
Restricted
stock units and options with performance measures not yet met
i4
i6
i3
i6
Anti-dilutive
employee stock options
i6
i1
i6
i2
/
18.iCapital
Transactions
Repurchase Program
On January 31, 2019, our Board of Directors authorized a stock repurchase program under which we are authorized to repurchase up to $i1.5 billion of our common stock from February 14,
2019, until the earlier of February 13, 2021, and a determination by the Board of Directors to discontinue the repurchase program. As of September 30, 2019, we have not repurchased any shares under this program.
Dividends
On February 12, 2019, our Board of Directors declared a cash dividend of $i0.37
per common share. On May 9, 2019, we made an aggregate cash dividend payment of $i283 million to shareholders of record at the close of business on March 28, 2019.
On February 8, 2018, our Board of Directors declared a cash dividend of $i0.34
per common share. On May 9, 2018, we made an aggregate cash dividend payment of $i259 million to shareholders of record at the close of business on March 30, 2018.
19.iCommitments
and Contingencies
Legal Proceedings
We are party to routine claims, suits, investigations, audits, and other proceedings arising from the ordinary course of business, including with respect to intellectual property rights, contractual claims, labor and employment matters, regulatory matters, tax matters, unclaimed property matters, compliance matters, and collection matters. In the opinion of management, after consultation with legal counsel, such routine claims and lawsuits are not significant, and we do not expect them to have a material adverse effect on our business, financial condition, results of operations, or liquidity.
Item 2.Management’s Discussion and Analysis of Financial Condition and Results of Operations
Business Overview
Activision Blizzard, Inc. is a leading global developer and publisher of interactive entertainment content and services. We develop and distribute content and services on video game consoles, personal computers (“PC”s), and mobile devices. We also operate esports leagues and events and create film and television content based on our intellectual property. The terms “Activision Blizzard,” the “Company,”“we,”“us,” and “our” are used to refer collectively to Activision Blizzard, Inc. and its subsidiaries.
The Company was originally incorporated in California in 1979 and was reincorporated in Delaware in December 1992. In connection with the 2008 business combination by and among the Company (then known as Activision, Inc.), Vivendi S.A, and Vivendi Games, Inc., then an indirect wholly-owned subsidiary of Vivendi S.A., we were renamed Activision Blizzard, Inc.
Our Segments
Based on our organizational structure, we conduct our business through three reportable segments, as
follows:
(i) Activision Publishing, Inc.
Activision Publishing, Inc. (“Activision”), is a leading global developer and publisher of interactive software products and entertainment content, particularly for the console platform. Activision primarily delivers content through retail and digital channels, including full-game and in-game sales, as well as by licensing software to third-party or related-party companies that distribute Activision products. Activision develops, markets, and sells products primarily based on our internally developed intellectual properties, as well as some licensed properties. Activision’s key product franchise is Call of Duty®, a first-person shooter for the console and PC platforms. Also, on
October 1, 2019, in collaboration with Tencent, Activision released Call of Duty: Mobile for the mobile platform, including for Google Inc.’s (“Google”) Android and Apple Inc.’s (“Apple”) iOS.
In 2010, Activision entered into an exclusive relationship with Bungie, Inc. (“Bungie”) to publish games in the Destiny franchise. Effective December 31, 2018, Activision and Bungie mutually agreed to terminate their publishing relationship related tothe Destiny franchise. As part of this termination, Activision agreed to transfer its publishing rights for the Destiny franchise to Bungie in exchange for cash and Bungie’s assumption of on-going customer obligations of Activision.
Activision no longer has any material rights or obligations related to the Destiny franchise.
(ii) Blizzard Entertainment, Inc.
Blizzard Entertainment, Inc. (“Blizzard”) is a leading global developer and publisher of interactive software products and entertainment content, particularly for the PC platform. Blizzard primarily delivers content through retail and digital channels, including subscriptions, full-game, and in-game sales, as well as by licensing software to third-party or related-party companies that distribute Blizzard products. Blizzard also maintains a proprietary online gaming service, Blizzard Battle.net®, which facilitates digital distribution of Blizzard content and selected Activision content, online
social connectivity, and the creation of user-generated content. Blizzard also includes the activities of the Overwatch LeagueTM, the first major global professional esports league with city-based teams, and our Major League Gaming (“MLG”) business, which is responsible for various esports events and serves as a multi-platform network for Activision Blizzard esports content.
Blizzard’s key product franchises include: World of Warcraft®, a subscription-based massive multi-player online role-playing game for the PC platform; StarCraft®, a real-time strategy franchise for the PC platform; Diablo®, an action
role-playing franchise for the PC and console platforms; Hearthstone®, an online collectible card franchise for the PC and mobile platforms; and Overwatch®, a team-based first-person shooter for the PC and console platforms.
(iii) King Digital Entertainment
King Digital Entertainment (“King”) is a leading global developer and publisher of interactive entertainment content and services, particularly for the mobile platform, including for Google’s Android and Apple’s iOS. King also distributes its content and services on the PC platform, primarily via Facebook. King’s games are free to play; however, players can acquire in-game items, either with virtual
currency or real currency, and we continue to focus on in-game advertising as a growing source of additional revenue.
King’s key product franchises, all of which are for the mobile and PC platforms, include: Candy Crush™, which features “match three” games; Farm Heroes™, which also features “match three” games; and Bubble Witch™, which features “bubble shooter” games.
Other
We also engage in other businesses that do not represent reportable segments,
including:
•
the Activision Blizzard Studios (“Studios”) business, which is devoted to creating original film and television content based on our library of globally recognized intellectual properties, and which, in September 2018, released the third season of the animated TV series Skylanders™ Academy on Netflix; and
•
the Activision Blizzard Distribution (“Distribution”) business, which consists of operations in Europe that provide warehousing, logistics, and sales distribution
services to third-party publishers of interactive entertainment software, our own publishing operations, and manufacturers of interactive entertainment hardware.
consolidated net revenues decreased 15% to $1.28 billion, and consolidated operating income decreased 7% to $247 million, as compared to consolidated net revenues of $1.51 billion and consolidated operating income of $265 million for the three months ended September 30, 2018;
•
revenues
from digital online channels were $1.01 billion, or 79% of consolidated net revenues, as compared to $1.28 billion, or 84% of consolidated net revenues, for the three months ended September 30, 2018;
•
operating margin was 19.3%, which includes $28 million in restructuring and related
costs, as compared to 17.5% for the three months ended September 30, 2018;
•
consolidated net income decreased 22% to $204 million, as compared to $260 million for the three months ended September 30, 2018; net income for the 2018 period
included $72 million of net tax benefits from discrete tax items primarily related to updates to our accounting for the Tax Cuts and Jobs Act (see “Consolidated Results” discussion below for additional details); and
•
diluted earnings per common share decreased 24% to $0.26, as compared to $0.34 for the three months ended September 30, 2018.
consolidated net revenues decreased 12% to $4.50 billion, and consolidated operating income decreased 11% to $1.15 billion, as compared to consolidated net revenues of $5.12 billion and consolidated operating income of $1.29 billion for the nine
months ended September 30, 2018;
•
revenues from digital online channels were $3.49 billion, or 78% of consolidated net revenues, as compared to $4.00 billion, or 78% of consolidated net revenues, for the nine months ended September 30, 2018;
•
operating
margin was 25.6%, which includes $108 million in restructuring and related costs, as compared to 25.3% for the nine months ended September 30, 2018;
•
cash flows from operating activities were $913 million, an increase of 15%, as compared to $791 million for the nine
months ended September 30, 2018;
•
consolidated net income decreased 16% to $978 million, as compared to $1.16 billion for the nine months ended September 30, 2018; net income for the 2018 period included $97 million of net tax benefits from several discrete tax items (see “Consolidated
Results” discussion below for additional details); and
•
diluted earnings per common share decreased 16% to $1.27, as compared to $1.51 for the nine months ended September 30, 2018.
Since certain of our games are hosted online or include significant online functionality that represents a separate performance
obligation, we defer the transaction price allocable to the online functionality from the sale of these games and then recognize the attributable revenues over the relevant estimated service periods, which are generally less than a year. Net revenues and operating income for the three months ended September 30, 2019, include a net effect of $68 million and $53 million, respectively, from the recognition of deferred net revenues and related cost of revenues. Net revenues and operating income for the nine months ended September 30, 2019, include a net effect of $824 million
and $629 million, respectively, from the recognition of deferred net revenues and related cost of revenues.
Content Release and Event Highlights
During the three months ended September 30, 2019, Activision released SpyroTM Reignited Trilogy on Nintendo Switch and PC,and Blizzard released World of Warcraft® Classic, a re-creation
of the pre-expansion version of the game, and the latest expansions to Hearthstone—Saviors of UldumTMand Tombs of TerrorTM .
The following operating metrics are key performance indicators that we use to evaluate our business.
Net
bookings and In-game net bookings
We monitor net bookings as a key operating metric in evaluating the performance of our business. Net bookings is the net amount of products and services sold digitally or sold-in physically in the period, and includes license fees, merchandise, and publisher incentives, among others. Net bookings is equal to net revenues excluding the impact from deferrals. In-game net bookings primarily includes the net amount of downloadable content and microtransactions sold during the period, and is equal to in-game net revenues excluding the impact from deferrals.
Net bookings and in-game net bookings were as follows (amounts in millions):
The decrease in net bookings for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to:
•
a decrease in Blizzard net bookings of $241
million driven by (1) overall lower net bookings from World of Warcraft expansion and in-game content sales, primarily due to World of Warcraft: Battle for Azeroth, which was released in August 2018, with no comparable release in 2019, (although subscription revenues remained relatively comparable to the prior-year period due to the release of World of WarcraftClassic in August 2019), and (2) lower net bookings from Hearthstone, primarily due to lower net bookings from the Saviors of Uldum expansion, which was released in August 2019, as compared to the Boomsday™
expansion, which was released in August 2018; and
•
a decrease in Activision net bookings of $188 million driven by (1) lower net bookings from the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018), and (2) lower net bookings from the Call of Duty franchise catalog titles.
YTD Q3 2019 vs. YTD Q3 2018
The decrease in net bookings for the nine months
ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
a decrease in Blizzard net bookings of $484 million driven by (1) lower net bookings from World of Warcraft, primarily due to the launch of World of Warcraft: Battle for Azeroth, and (2) lower net bookings from Overwatch;
and
•
a decrease in Activision net bookings of $253 million driven by (1) lower net bookings from the Destiny franchise and (2) lower net bookings from the Call of Duty franchise catalog titles, partially offset by net bookings from SekiroTM: Shadows Die Twice,which was released in March 2019.
The decrease in in-game net bookings for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to a decrease in Blizzard and Activision in-game net bookings of $183 million and $113 million, respectively, due to the same drivers
discussed for net bookings above.
YTD Q3 2019 vs. YTD Q3 2018
The decrease in in-game net bookings for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
a decrease in Blizzard
in-game net bookings of $400 million driven by (1) lower in-game net bookings from World of Warcraft, primarily due to the launch of World of Warcraft: Battle for Azeroth, and (2) lower in-game net bookings from Overwatch and Hearthstone; and
•
a decrease in Activision in-game net bookings of $254 million driven by (1) lower in-game net bookings from the Destiny franchise and (2) lower in-game net bookings from the Call
of Duty franchise, primarily driven by catalog titles.
Monthly Active Users
We monitor monthly active users (“MAUs”) as a key measure of the overall size of our user base. MAUs are the number of individuals who accessed a particular game in a given month. We calculate average MAUs in a period by adding the total number of MAUs in each of the months in a given period and dividing that total by the number of months in the period. An individual who accesses two of our games would be counted as two users. In addition, due to technical limitations, for Activision and King, an individual who accesses the same game on two platforms or devices in the relevant period would be counted as two users. For Blizzard, an individual who accesses the same game on two platforms
or devices in the relevant period would generally be counted as a single user.
The number of MAUs for a given period can be significantly impacted by the timing of new content releases, since new releases may cause a temporary surge in MAUs. Accordingly, although we believe that overall trending in the number of MAUs can be a meaningful performance metric, period-to-period fluctuations may not be indicative of longer-term trends. The following table details our average MAUs on a sequential quarterly basis for each of our reportable segments (amounts in millions):
Average
MAUs decreased by 11 million, or 3%, for the three months ended September 30, 2019, as compared to the three months ended June 30, 2019, primarily driven by a decrease in average MAUs for King. The decrease in King’s average MAUs is primarily due to decreases from the Candy Crush franchise. The slight increase in Blizzard’s average MAUs is due to an increase in average MAUs for World of Warcraft, largely offset by lower average MAUs for Hearthstone.
Average MAUs decreased by 29 million,
or 8%, for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018. The year-over-year decrease in average MAUs is due to:
•
decreases across King’s various franchises, other than Candy Crush, primarily from less engaged users leaving the network, partially offset by an increase in average MAUs for the Candy Crush franchise, primarily driven by the launch of Candy Crush Friends SagaTM
in the fourth quarter of 2018;
lower average MAUs for Activision, primarily due to the absence of Destiny MAUs in our operating metric and lower average MAUs from the Call of Duty franchise; and
•
lower
average MAUs for Blizzard, primarily due to lower average MAUs for Hearthstone and Overwatch.
Management’s Overview of Business Trends
Interactive Entertainment and Mobile Gaming Growth
Our business participates in the global interactive entertainment industry. Games have become an increasingly popular form of entertainment, and we estimate the total industry has grown, on average, 18% annually from 2015 to 2018. The industry continues to benefit from additional players entering the market as interactive entertainment
becomes more commonplace across age groups and as more developing regions gain access to this form of entertainment.
The wide adoption of smart phones globally and the free-to-play business model on those platforms has increased the total addressable audience for gaming significantly by introducing gaming to new age groups and new regions and allowing gaming to occur more widely outside the home. Mobile gaming is estimated to be larger than console and PC gaming, and continues to grow at a significant rate. King is a leading developer of mobile and free-to-play games, and our other business units have mobile efforts underway that present the opportunity for us to expand the reach of, and drive additional player investment from our franchises, such as the October 2019 launch of Call of Duty: Mobile.
Opportunities
to Expand Franchises Outside of Games
Our fans spend significant time investing in our franchises through purchases of our game content, whether through purchases of full games or downloadable content or via microtransactions. Given the passion our players have for our franchises, we believe there are emerging opportunities to drive additional engagement and investment in our franchises outside of games. Our efforts to build these adjacent opportunities are still relatively nascent, but we view them as potentially significant sources of future revenues.
For example, as part of our efforts to take advantage of esports opportunities, we have sold rights for 20 teams that are participating in the Overwatch League, which recently completed its second season. Additionally, we have sold the first 12 teams for the Call of Duty League.
Concentration
of Sales Among the Most Popular Franchises
The concentration of retail revenues among key titles has continued as a trend in the overall interactive entertainment industry. According to The NPD Group, the top 10 titles accounted for 38% of the retail sales in the U.S. interactive entertainment industry in 2018. Similarly, a significant portion of our revenues historically has been derived from video games based on a few popular franchises, and these video games have been responsible for a disproportionately high percentage of our profits. For example, the Call of Duty, Candy Crush, and World of Warcraft franchises, collectively, accounted for 58% of our consolidated net revenues—and a significantly higher percentage of our operating income—for 2018.
In addition to investing in, and developing
sequels and content for, our top franchises, we are continually exploring additional ways to expand those franchises. Further, while there is no guarantee of success, we invest in new properties in an effort to develop future top franchises. For example, in 2014, we released Hearthstone,and in 2016, we released Overwatch. Additionally, to diversify our portfolio of key franchises and increase our presence on the mobile platform, in 2016, we acquired King. We also have mobile titles in development based on Activision’s and Blizzard’s intellectual property, such as the recently released Call of Duty: Mobile and previously announced Diablo ImmortalTM.
Overall,
we do expect that a limited number of popular franchises will continue to produce a disproportionately high percentage of our, and the industry’s, revenues and profits in the near future. Accordingly, our ability to maintain our top franchises and our ability to successfully compete against our competitors’ top franchises can significantly impact our performance.
Increased consumer online connectivity has allowed us to offer players new investment opportunities and to shift
our business further towards a more consistently recurring and year-round model. Offering downloadable content and microtransactions, in addition to full games, allows our players to access and invest in new content throughout the year. This incremental content not only provides additional high-margin revenues, it can also increase player engagement. Also, mobile games, and free-to-play games more broadly, are generally less seasonal than games developed primarily for the console or PC platforms.
Consolidated Statements of Operations Data
The following table sets forth condensed consolidated statements of operations data for the periods indicated (amounts in millions)
and as a percentage of total net revenues, except for cost of revenues, which are presented as a percentage of associated revenues:
Software
royalties, amortization, and intellectual property licenses
9
3
20
8
171
13
214
15
Cost
of revenues—subscription, licensing, and other revenues:
Game operations and distribution costs
246
24
257
21
714
22
777
21
Software
royalties, amortization, and intellectual property licenses
50
5
109
9
164
5
278
8
Product
development
210
16
263
17
702
16
776
15
Sales
and marketing
182
14
263
17
580
13
741
14
General
and administrative
177
14
208
14
527
12
623
12
Restructuring
and related costs
24
2
—
—
104
2
—
—
Total
costs and expenses
1,035
81
1,247
82
3,350
74
3,825
75
Operating
income
247
19
265
18
1,153
26
1,294
25
Interest
and other expense (income), net
(2
)
—
13
1
(33
)
(1
)
67
1
Loss
on extinguishment of debt (1)
—
—
40
3
—
—
40
1
Income
before income tax expense (benefit)
249
19
212
14
1,186
26
1,187
23
Income
tax expense (benefit)
45
4
(48
)
(3
)
208
5
25
—
Net
income
$
204
16
%
$
260
17
%
$
978
22
%
$
1,162
23
%
(1)
Represents the loss on extinguishment of debt we recognized in connection with our debt financing activities during the nine months ended September 30, 2018. The loss on extinguishment is comprised of a $25 million premium payment and a $15 million write-off of unamortized discount and deferred financing costs.
The following table summarizes our consolidated
net revenues, in-game net revenues, and increase (decrease) in deferred net revenues recognized (amounts in millions):
Net
effect from recognition (deferral) of deferred net revenues
68
(146
)
214
824
692
132
(1)
In-game
net revenues primarily includes the net amount of revenue recognized for downloadable content and microtransactions during the period.
Consolidated Net Revenues
Q3 2019 vs. Q3 2018
The decrease in consolidated net revenues and in-game net revenues for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018,
was primarily due to:
•
a decrease in Blizzard revenues recognized of $121 million, primarily due to lower revenues recognized from World of Warcraft; and
•
a decrease in Activision revenues recognized of $100 million, primarily due to lower revenues recognized from the Destiny franchise (reflecting our
sale of the publishing rights for Destiny to Bungie in December 2018).
YTD Q3 2019 vs. YTD Q3 2018
The decrease in consolidated net revenues and in-game net revenues for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
a
decrease in Activision revenues recognized of $375 million, primarily due to (1) lower revenues recognized from the Destiny franchise and (2) lower revenues recognized from the Call of Duty franchise catalog titles, partially offset by revenues from Sekiro: Shadows Die Twice,which was released in March 2019; and
•
a decrease in Blizzard revenues recognized of $247 million, primarily due to lower revenues recognized from Overwatch.
In-game
Net Revenues
Q3 2019 vs. Q3 2018
The decrease in in-game net revenues for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to a decrease in Blizzard and Activision in-game revenues recognized of $121 million and $116 million, respectively, due to the same drivers discussed for consolidated net revenues above.
The decrease in in-game net revenues for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
a decrease in Blizzard
in-game revenues recognized of $250 million, primarily due to lower in-game revenues recognized from Overwatch and Hearthstone;and
•
a decrease in Activision in-game revenues recognized of $219 million, primarily due to lower in-game revenues recognized from the Destiny franchise.
Change in Deferred Revenues Recognized
Q3
2019 vs. Q3 2018
The increase in net deferred revenues recognized for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to (1) an increase of $120 million in net deferred revenues recognized from Blizzard, primarily due to the prior year period including a net deferral of revenues from World of Warcraft, driven by World of Warcraft: Battle for Azeroth, which was released in August 2018, with
no comparable release in 2019 and (2) an increase of $88 million in net deferred revenues recognized from Activision, primarily due to lower net deferral of revenues from the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018).
YTD Q3 2019 vs. YTD Q3 2018
The increase in net deferred revenues recognized for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was
primarily due to an increase of $237 million in net deferred revenues recognized from Blizzard, primarily due to higher net deferred revenues recognized for World of Warcraft,driven by World of Warcraft: Battle for Azeroth,which was released in August 2018, with no comparable release in 2017. The increase from Blizzard was partially offset by a decrease of $122 million in net deferred revenues recognized from Activision, primarily due to lower net deferred revenues recognized from the Destiny franchise.
Foreign Exchange Impact
Changes
in foreign exchange rates had a negative impact of $27 million and $133 million on our consolidated net revenues for the three and nine months ended September 30, 2019, respectively, as compared to the same period in the previous year. The changes are primarily due to changes in the value of the U.S. dollar relative to the euro and the British pound.
Operating Segment Results
Currently, we have three reportable segments—Activision, Blizzard,
and King. Our operating segments are consistent with the manner in which our operations are reviewed and managed by our Chief Executive Officer, who is our chief operating decision maker (“CODM”). The CODM reviews segment performance exclusive of: the impact of the change in deferred revenues and related cost of revenues with respect to certain of our online-enabled games; share-based compensation expense; amortization of intangible assets as a result of purchase price accounting; fees and other expenses (including legal fees, expenses, and accruals) related to acquisitions, associated integration activities, and financings; certain restructuring and related costs; and certain other non-cash charges. The CODM does not review any information regarding total assets on an operating segment basis, and accordingly, no disclosure is made with respect thereto.
Our operating segments
are also consistent with our internal organizational structure, the way we assess operating performance and allocate resources, and the availability of separate financial information. We do not aggregate operating segments.
Information on reportable segment net revenues and operating income for the three and nine months ended September 30, 2019 and 2018, are presented
below (amounts in millions):
Reconciliations of total segment net revenues and total segment operating income to consolidated net revenues and consolidated income before income tax expense are presented in the table below (amounts in millions):
Net effect from recognition (deferral) of deferred net revenues
68
(146
)
824
692
Elimination
of intersegment revenues (2)
(2
)
(8
)
(9
)
(14
)
Consolidated net revenues
$
1,282
$
1,512
$
4,503
$
5,119
Reconciliation
to consolidated income before income tax expense:
Segment operating income
$
294
$
485
$
900
$
1,275
Operating
income (loss) from non-reportable segments (1)
5
7
10
(4
)
Net effect from recognition (deferral) of deferred net revenues and related cost
of revenues
53
(89
)
629
468
Share-based compensation expense
(27
)
(55
)
(127
)
(166
)
Amortization
of intangible assets
(50
)
(83
)
(151
)
(279
)
Restructuring and related costs (3)
(28
)
—
(108
)
—
Consolidated
operating income
247
265
1,153
1,294
Interest and other expense (income), net
(2
)
13
(33
)
67
Loss
on extinguishment of debt
—
40
—
40
Consolidated income before income tax expense
$
249
$
212
$
1,186
$
1,187
(1)
Includes
other income and expenses from operating segments managed outside the reportable segments, including our Studios and Distribution businesses. Also includes unallocated corporate income and expenses.
(2)
Intersegment revenues reflect licensing and service fees charged between segments.
(3)
Reflects restructuring initiatives, primarily severance and other restructuring-related costs.
Segment Net Revenues
Activision
Q3
2019 vs. Q3 2018
The decrease in Activision’s net revenues for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to:
•
lower revenues from the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018);
•
lower
revenues from the Call of Duty franchise catalog titles; and
•
lower revenues from Crash Bandicoot™ N. Sane Trilogy,which was released on the Xbox One, PC, and Nintendo Switch in June 2018.
The decrease was partially offset by:
•
revenues
from Crash Team Racing Nitro-Fueled,which was released in June 2019; and
higher revenues from the Spyro Reignited Trilogy,which was released on Nintendo Switch in September 2019, after having been released on Playstation 4 and Xbox
One in November 2018.
YTD Q3 2019 vs. YTD Q3 2018
The decrease in Activision’s net revenues for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
lower revenues
from the Destiny franchise;
•
lower revenues from Call of Duty franchise catalog titles;
•
lower revenues from Call of Duty: Black Ops 4, which was released in October 2018, as compared to Call of Duty: WWII,which was released in November 2017; and
•
lower
revenues from Crash Bandicoot N. Sane Trilogy.
The decrease was partially offset by revenues from Sekiro: Shadows Die Twice, which was released in March 2019,and Crash Team Racing Nitro-Fueled.
Blizzard
Q3 2019 vs. Q3 2018
The decrease in Blizzard’s net revenues for the three months ended September 30,
2019, as compared to the three months ended September 30, 2018, was primarily due to:
•
overall lower revenues from World of Warcraft, primarily due to World of Warcraft: Battle for Azeroth, which was released in August 2018, with no comparable release in 2019 (although subscription revenues remained relatively comparable to the prior-year period due to the release of World of WarcraftClassic
in August 2019);
•
lower revenues from Hearthstone, primarily due to lower revenues from the Saviors of Uldum expansion, which was released in August 2019, as compared to the Boomsday™ expansion, which was released in August 2018; and
•
lower revenues from Overwatch.
The
decrease was partially offset by higher revenues from the Overwatch League.
YTD Q3 2019 vs. YTD Q3 2018
The decrease in Blizzard’s net revenues for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
lower
revenues from World of Warcraft,primarily due to World of Warcraft: Battle for Azeroth;
•
lower revenues from Overwatch; and
•
lower revenues from Hearthstone.
King
Q3
2019 vs. Q3 2018
King’s net revenues for the three months ended September 30, 2019, were roughly equal to net revenues for the three months ended September 30, 2018, as lower in-game revenues from player purchases were largely offset by an increase in advertising revenues.
King’s net revenues for the nine months ended September 30, 2019, were roughly equal to net revenues for the nine months ended September 30, 2018 due to the same driver and offsetting factor discussed above.
Segment Income from Operations
Activision
Q3 2019 vs. Q3 2018
The
decrease in Activision’s operating income for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to lower revenues, as discussed above. The decrease was partially offset by lower operating costs associated with the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018).
YTD Q3 2019 vs. YTD Q3 2018
The decrease in Activision’s operating income for the nine
months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
lower revenues, as discussed above; and
•
an increase in bad debt provisions.
The
decrease was partially offset by lower cost of revenues and operating costs, primarily associated with the Destiny franchise, which were partially offset by costs related to the current year releases of Sekiro: Shadows Die Twice and Crash Team Racing Nitro-Fueled in March and June 2019, respectively.
Blizzard
Q3 2019 vs. Q3 2018
The decrease in Blizzard’s operating income for the three months ended September 30, 2019, as compared to the three
months ended September 30, 2018, was primarily due to lower revenues, as discussed above. The decrease is partially offset by:
•
lower spending on sales and marketing, primarily driven by lower marketing for esports initiatives and World of Warcraft;
•
lower software amortization from World
of Warcraft,primarily due to World of Warcraft: Battle for Azeroth, which was released in August 2018, with no comparable release in 2019; and
•
higher capitalization of software development costs due to the timing of game development cycles.
YTD Q3 2019 vs. YTD Q3 2018
The decrease in Blizzard’s operating income for the nine months
ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to lower revenues, as discussed above. The decrease is partially offset by:
•
lower spending on sales and marketing, primarily driven by lower marketing for esports initiatives, Overwatch, and World of Warcraft;
•
lower
personnel costs;
•
lower software amortization from World of Warcraft,primarily due to World of Warcraft: Battle for Azeroth; and
lower
service provider fees, such as digital storefront fees (e.g. fees retained by Apple and Google for our sales on their platforms), payment processor fees, and server bandwidth fees.
King
Q3 2019 vs. Q3 2018
The increase in King’s operating income for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, despite the slight decrease in revenues, was primarily
due to:
•
lower service provider fees, primarily digital storefront fees (e.g. fees retained by Apple and Google for our sales on their platforms); and
higher
sales and marketing costs driven by the Candy Crush franchise, in part due to the launch of Candy Crush Friends Saga in October 2018.
The impacts from above were offset by:
•
lower service provider fees, such as digital storefront fees (e.g. fees retained by Apple and Google for our sales on their platforms), payment processor fees, and server bandwidth fees; and
•
lower
personnel costs.
Foreign Exchange Impact
Changes in foreign exchange rates had a negative impact of $20 million and $92 million on reportable segment net revenues for the three and nine months ended September 30, 2019, respectively, as compared to the same periods in the previous year. The changes are primarily due to changes in the value of the U.S. dollar relative to the euro and the British pound.
Net
revenues from “Digital online channels” include revenues from digitally-distributed subscriptions, downloadable content, microtransactions, and products, as well as licensing royalties.
(2)
Net revenues from “Other” include revenues from our Studios and Distribution businesses, as well as revenues from MLG and the Overwatch League.
Digital Online Channel Net Revenues
Q3 2019 vs. Q3 2018
The
decrease in net revenues from digital online channels for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to:
•
lower revenues recognized from the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018); and
•
lower
revenues recognized from World of Warcraft.
YTD Q3 2019 vs. YTD Q3 2018
The decrease in net revenues from digital online channels for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
lower
revenues recognized from the Destiny franchise; and
•
lower revenues recognized from Overwatch.
Retail Channel Net Revenues
Q3 2019 vs. Q3 2018
The increase in net revenues from retail channels for the three months ended September 30, 2019,
as compared to the three months ended September 30, 2018, was primarily due to:
•
revenues recognized from Crash Team Racing Nitro-Fueled,which was released in June 2019; and
•
higher revenues from the Spyro
Reignited Trilogy,which was released on Nintendo Switch in September 2019, after having been released on Playstation 4 and Xbox One in November 2018.
The decrease in net revenues from retail channels for the nine months ended September 30,
2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
lower revenues recognized from Call of Duty: Black Ops 4, which was released in October 2018, as compared to Call of Duty: WWII, which was released in November 2017;
•
lower
revenues recognized from the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018); and
•
lower revenues from Crash Bandicoot N. Sane Trilogy, which was released on the Xbox One, PC, and Nintendo Switch in June 2018.
The decrease was partially offset by:
•
revenues
from Sekiro: Shadows Die Twice,which was released in March 2019; and
•
revenues recognized from Crash Team Racing Nitro-Fueled.
Net Revenues by Geographic Region
The following table details our consolidated net revenues by geographic region
(amounts in millions):
“EMEA” consists of the Europe, Middle East, and Africa geographic regions.
Americas
Q3 2019 vs. Q3 2018
The decrease in net revenues from the Americas region for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to lower revenues recognized from the Destiny
franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018).
YTD Q3 2019 vs. YTD Q3 2018
The decrease in net revenues from the Americas region for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to lower revenues recognized from the Destiny franchise.
EMEA
Q3
2019 vs. Q3 2018
The decrease in net revenues from the EMEA region for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to:
•
lower revenues recognized from the Destiny franchise; and
The decrease in net revenues from the EMEA region for the nine months ended September 30, 2019, as compared to the nine months ended September 30,
2018, was primarily due to:
•
lower revenues recognized from the Destiny franchise; and
•
lower revenues recognized from the Call of Duty franchise, primarily driven by lower revenues recognized from Call of Duty: Black Ops 4, which was released in October 2018, as compared to Call of Duty: WWII, which was released in November
2017.
Asia Pacific
Q3 2019 vs. Q3 2018
The decrease in net revenues from the Asia Pacific region for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to lower revenues recognized from Hearthstone.
YTD
Q3 2019 vs. YTD Q3 2018
The decrease in net revenues from the Asia Pacific region for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to lower revenues recognized from the Destiny franchise.
Net Revenues by Platform
The following table
details our consolidated net revenues by platform (amounts in millions):
Net
revenues from “Mobile and ancillary” include revenues from mobile devices, as well as non-platform-specific game-related revenues, such as standalone sales of physical merchandise and accessories.
(2)
Net revenues from “Other” include revenues from our Studios and Distribution businesses, as well as revenues from MLG and the Overwatch League.
Console
Q3 2019 vs. Q3 2018
The decrease in
net revenues from the console platform for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to:
•
lower revenues recognized from the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018);
lower revenues recognized from the Call of Duty franchise catalog titles;
•
lower revenues recognized from Overwatch;
•
lower revenues
recognized from Call of Duty: Black Ops 4, which was released in October 2018, as compared to Call of Duty: WWII, which was released in November 2017; and
•
lower revenues from Crash Bandicoot N. Sane Trilogy which was released on the Xbox One, PC, and Nintendo Switch in June 2018.
The decrease was partially offset by:
•
revenues
recognized from Crash Team Racing Nitro-Fueled,which was released in June 2019; and
•
higher revenues from the Spyro Reignited Trilogy,which was released on Nintendo Switch in September 2019, after having been released on Playstation 4 and Xbox One in November 2018.
YTD Q3 2019 vs. YTD Q3 2018
The decrease
in net revenues from the console platform for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
lower revenues recognized from the Destiny franchise;
•
lower
revenues recognized from Call of Duty franchise catalog titles; and
•
lower revenues recognized from Call of Duty: Black Ops 4, as compared to Call of Duty: WWII.
The decrease was partially offset by revenues from Sekiro: Shadows Die Twice,which was released in March 2019.
PC
Q3
2019 vs. Q3 2018
The decrease in net revenues from the PC platform for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to:
•
lower revenues recognized from World of Warcraft;
•
lower
revenues recognized from Hearthstone;
•
lower revenues recognized from Overwatch;and
•
lower revenues recognized from the Destiny franchise.
YTD Q3 2019 vs. YTD Q3 2018
The
decrease in net revenues from the PC platform for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
lower revenues recognized from the Destiny franchise;
Net
revenues from mobile and ancillary for the three months ended September 30, 2019, were roughly flat as compared to net revenues for the three months ended September 30, 2018.
YTD Q3 2019 vs. YTD Q3 2018
Net revenues from mobile and ancillary for the nine months ended September 30, 2019, were roughly flat as compared to net revenues for the nine
months ended September 30, 2018.
Costs and Expenses
Cost of Revenues
The following table details the components of cost of revenues in dollars (amounts in millions) and as a percentage of associated net revenues:
Software
royalties, amortization, and intellectual property licenses
171
13
214
15
(43
)
Cost
of revenues—subscription, licensing, and other revenues:
Game operations and distribution costs
714
22
777
21
(63
)
Software
royalties, amortization, and intellectual property licenses
164
5
278
8
(114
)
Total
cost of revenues
$
1,437
32
%
$
1,685
33
%
$
(248
)
Cost
of Revenues—Product Sales:
Q3 2019 vs. Q3 2018
The increase in product costs for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was in line with the increase in retail revenues.
The decrease in software royalties, amortization, and intellectual property licenses related to product sales for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to a decrease of $8 million in software amortization and royalties from Activision, driven by the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018).
YTD Q3 2019 vs. YTD Q3 2018
The
decrease in product costs for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was in line with the decrease in product sales.
The decrease in software royalties, amortization, and intellectual property licenses related to product sales for the nine months ended September 30, 2019, as compared to the nine months ended September 30,
2018, was primarily due to a decrease of $56 million in software amortization and royalties from Activision, driven by the Destiny franchise. This decrease was partially offset by:
•
higher software amortization and royalties for Call of Duty: Black Ops 4, which was released in October 2018, as compared to Call of Duty: WWII, which was released in November 2017; and
•
software
amortization and royalties from Sekiro: Shadows Die Twice, which was released in March 2019, with no comparable release in 2018.
The decrease from Activision was partially offset by an increase of $12 million in software amortization and royalties from Blizzard, driven by the release of World of Warcraft: Battle for Azeroth, which was released in August 2018, with no comparable release in 2017.
Cost of Revenues—Subscription, Licensing, and Other Revenues:
Q3 2019 vs. Q3 2018
The
decrease in game operations and distribution costs for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to a decrease of $18 million in service provider fees such as digital storefront fees (e.g. fees retained by Apple and Google for our sales on their platforms), payment processor fees, and server bandwidth fees.
The decrease in software royalties, amortization, and intellectual property licenses related to subscription, licensing, and other revenues for the three
months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to:
•
a decrease of $34 million in amortization of internally-developed franchise intangible assets acquired as part of our acquisition of King;
•
lower
software amortization and royalties from Activision of $14 million, driven by the Destiny franchise; and
•
lower amortization of capitalized film costs of $12 million given the release of the third season of the animated TV series, Skylanders Academy, in September 2018, with no comparable release in 2019.
YTD Q3 2019 vs. YTD Q3 2018
The decrease in game operations and distribution costs for the nine
months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to a decrease of $50 million in service provider fees such as digital storefront fees (e.g. fees retained by Apple and Google for our sales on their platforms), payment processor fees, and server bandwidth fees.
The decrease in software royalties, amortization, and intellectual property licenses related to subscription, licensing, and other revenues for the nine months ended September 30,
2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
a decrease of $83 million in amortization of internally-developed franchise intangible assets acquired as part of our acquisition of King;
lower
software amortization and royalties from Activision of $22 million, driven by the Destiny franchise; and
•
lower amortization of capitalized film costs of $12 million given the release of the third season of the animated TV series, Skylanders Academy, in September 2018, with no comparable release in 2019.
The decrease in product development costs for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to:
•
lower product development costs for existing and upcoming title releases of $33 million, primarily due to lower
personnel costs; and
•
lower product development costs from the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018).
YTD Q3 2019 vs. YTD Q3 2018
The decrease in product development costs for the nine months ended September 30, 2019, as compared to the nine months
ended September 30, 2018, was primarily due to:
•
lower product development costs for existing and upcoming title releases of $66 million, primarily due to lower personnel costs; and
•
lower product development costs from the Destiny franchise.
The decrease in sales and marketing expenses for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to a decrease of $81 million in marketing spending and personnel costs, primarily associated with lower marketing costs for the Destiny, World of Warcraft, and Call of Duty franchises, and esports initiatives.
The decrease in sales and marketing expenses for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
a decrease of $130 million
in marketing spending and personnel costs, primarily associated with lower marketing costs for esports initiatives, the Destiny franchise, and Overwatch, partially offset by higher marketing costs for the Candy Crush franchise; and
•
a decrease of $44 million in amortization of the customer base intangible asset acquired as part of our acquisition of King, as the asset was fully amortized during the first quarter of 2018.
The decrease in general and administrative expenses for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to a $22 million decrease in personnel costs.
YTD Q3 2019 vs. YTD Q3 2018
The decrease in general and administrative expenses for the nine
months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to a $69 million decrease in personnel costs.
Restructuring and related costs (amounts in millions)
On
February 12, 2019, the Company committed to a Board-authorized restructuring plan under which the Company aims to refocus its resources on its largest opportunities and remove unnecessary levels of complexity and duplication from certain parts of the business. Since the roll out of the plan, we have been, and will continue focusing on these goals. The restructuring and related costs incurred during the three and nine months ended September 30, 2019, relate primarily to severance costs, write-downs of lease facility assets, and the write-downs of other assets that will no longer be used. Refer to Note 14 of the notes
to the condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q for further discussion.
The decrease in interest and other expense (income), net, for the three months ended September 30, 2019, as compared to the three months ended September 30, 2018, was primarily due to an $11 million decrease in interest expense and amortization of deferred financing costs associated with our debt obligations, due to a decrease in our total debt outstanding as a result of our debt redemptions and repayment activities during 2018.
YTD Q3 2019 vs.
YTD Q3 2018
The decrease in interest and other expense (income), net, for the nine months ended September 30, 2019, as compared to the nine months ended September 30, 2018, was primarily due to:
•
a $49 million decrease in interest expense and amortization of deferred financing costs associated with
our debt obligations, reflecting a decrease in our total debt outstanding as a result of our debt redemptions and repayment activities during 2018;
•
a $38 million gain recognized as a result of adjusting a cost-method equity investment to fair value, with no comparable activity in the prior period (refer to Note 8 of the notes to the condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q); and
•
an
$11 million increase in interest income due to our cash and cash equivalent balances earning interest at higher rates, along with an overall higher cash balance, in 2019 as compared to 2018.
The
income tax expense of $45 million for the three months ended September 30, 2019, reflects an effective tax rate of 18%, which is higher than the effective tax rate of (23)% for the three months ended September 30, 2018. The increase is primarily due to a discrete tax benefit recognized in the prior year in connection with adjustments made to the provisional amounts initially recorded in connection with tax reform legislation known as the Tax Cuts and Jobs Act enacted in December 22, 2017 (the “U.S. Tax
Reform Act”), lower excess tax benefits from share-based payments in the current year, and an increase in U.S. tax on foreign earnings.
The income tax expense of $208 million for the nine months ended September 30, 2019, reflects an effective tax rate of 18%, which is higher than the effective tax rate of 2% for the nine months ended September 30, 2018. The increase is due to a discrete tax benefit recognized in the prior year in connection with an audit settlement
with the Internal Revenue Service (“IRS”), a discrete tax benefit recognized in the prior year in connection with adjustments made to the provisional amounts initially recorded in connection with the U.S. Tax Reform Act, and lower excess tax benefits from share-based payments in the current year. This increase was partially offset by a valuation allowance recorded in the prior year with regard to California research and development credit carryforwards (“CA R&D Credits”).
The effective tax rate of 18% for both the three and nine months ended September 30, 2019, is lower than the U.S. statutory rate of 21%, primarily due to foreign earnings taxed at lower statutory rates as
compared to domestic earnings, which is partially offset by U.S. tax on foreign earnings, and the recognition of federal research and development credit.
Our effective tax rate could be different from the statutory U.S. income tax rate due to the effect of state and local income taxes, tax rates that apply to our foreign income (including U.S. tax on foreign income), research and development credits, and certain nondeductible expenses. Our effective tax rate could fluctuate significantly from quarter to quarter based on recurring and nonrecurring factors including, but not limited to: variations in
the estimated and actual level of pre-tax income or loss by jurisdiction; changes in enacted tax laws and regulations, and interpretations thereof, including with respect to tax credits and state and local income taxes; developments in tax audits and other matters; recognition of excess tax benefits and tax deficiencies from share-based payments; and certain nondeductible expenses. Changes in judgment from the evaluation of new information resulting in the recognition, derecognition, or remeasurement of a tax position taken in a prior annual period are recognized separately in the quarter of the change.
Further information about our income taxes is provided in Note 16 of the notes to the condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q.
We believe our ability to generate cash flows from operating activities is one of our fundamental financial strengths. In the near term, we expect our business and financial condition to remain strong and to continue to generate significant operating cash flows, which, we believe, in combination with our existing balance of cash and cash equivalents and short-term investments of $4.9 billion, our access to capital, and the availability of our $1.5 billion revolving credit facility, will be sufficient to finance our operational and financing requirements for the next 12 months. Our primary sources of liquidity, which are available to us to fund cash outflows such as potential dividend
payments or share repurchases, and scheduled debt maturities, include our cash and cash equivalents, short-term investments, and cash flows provided by operating activities.
As of September 30, 2019, the amount of cash and cash equivalents held outside of the U.S. by our foreign subsidiaries was $2.3 billion, as compared to $1.4 billion as of December 31, 2018. These cash balances are generally available for use in the U.S., subject in some cases to certain restrictions.
Our
cash provided from operating activities is somewhat impacted by seasonality. Working capital needs are impacted by weekly sales, which are generally highest in the fourth quarter due to seasonal and holiday-related sales patterns. We consider, on a continuing basis, various transactions to increase shareholder value and enhance our business results, including acquisitions, divestitures, joint ventures, share repurchases, and other structural changes. These transactions may result in future cash proceeds or payments.
Net
cash provided by (used in) investing activities
79
(160
)
239
Net cash used in financing activities
(251
)
(2,020
)
1,769
Effect
of foreign exchange rate changes
(24
)
(15
)
(9
)
Net increase (decrease) in cash and cash equivalents and restricted cash
$
717
$
(1,404
)
$
2,121
Net
Cash Provided by Operating Activities
The primary driver of net cash flows associated with our operating activities is the collection of customer receivables generated from the sale of our products and services. These collections are typically partially offset by: payments to vendors for the manufacturing, distribution, and marketing of our products; payments for customer service support for our consumers; payments to third-party developers and intellectual property holders; payments for interest on our debt; payments for software development; payments for tax liabilities; and payments to our workforce.
Net cash provided by operating activities for the nine months ended September 30,
2019, was $913 million, as compared to $791 million for the nine months ended September 30, 2018. The increase was primarily due to changes in our working capital resulting from the timing of collections and payments and lower cash spent to support the Destiny franchise (reflecting our sale of the publishing rights for Destiny to Bungie in December 2018). This increase was partially offset by lower net income and a decrease in non-cash adjustments to net income, primarily due to lower amortization on intangible assets related to King and lower amortization of capitalized software development costs and intellectual property licenses for the nine months ended September 30,
2019, as compared to the nine months ended September 30, 2018.
Net Cash Provided by (Used in) Investing Activities
The primary drivers of net cash flows associated with investing activities typically include capital expenditures, purchases and sales of investments, changes in restricted cash balances, and cash used for acquisitions.
Net
cash provided by investing activities for the nine months ended September 30, 2019, was $79 million, as compared to net cash used in investing activities of $160 million for the nine months ended September 30, 2018. The increase was primarily due to $153 million of cash proceeds from the maturities of available-for-sale investments, as compared to purchases of available-for-sale investments of $59 million in the prior-year period. Additionally, capital expenditures
of $79 million for the nine months ended September 30, 2019, were lower than the capital expenditures of $97 million for the prior-year period.
Net Cash Used in Financing Activities
The primary drivers of net cash flows associated with financing activities typically include the proceeds from, and repayments of, our long-term debt and transactions involving our common stock, including the issuance of shares of common stock to employees upon the exercise of stock options, as well as the payment of dividends.
Net
cash used in financing activities for the nine months ended September 30, 2019, was $251 million, as compared to $2.0 billion for the nine months ended September 30, 2018. The decrease was primarily due to debt repayments, inclusive of premium payments, of $1.8 billion during the nine months ended September 30, 2018, with no comparable repayment activity in the nine months
ended September 30, 2019. The Company paid dividends of $283 million during the nine months ended September 30, 2019, as compared to $259 million during the prior-year period.
Effect of Foreign Exchange Rate Changes
Changes in foreign exchange rates had a negative impact of $24 million on our cash and cash equivalents and restricted
cash for the nine months ended September 30, 2019, as compared to a negative impact of $15 million for the nine months ended September 30, 2018. The change was primarily due to changes in the value of the U.S. dollar relative to the euro and the British pound.
Debt
At both September 30, 2019 and December 31, 2018,
our total outstanding debt was $2.7 billion, bearing interest at a weighted average rate of 3.18%.
A summary of our outstanding debt is as follows (amounts in millions):
Refer
to Note 11 of the notes to the condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q for further disclosures regarding our debt obligations.
Dividends
On February 12, 2019, our Board of Directors declared a cash dividend of $0.37 per common share. On May 9, 2019, we made an aggregate cash dividend payment of $283 million to shareholders of record at the close of business on March 28, 2019.
Capital Expenditures
For
the year ending December 31, 2019, we anticipate total capital expenditures of approximately $130 million, primarily for leasehold improvements, computer hardware, and software purchases. During the nine months ended September 30, 2019, capital expenditures were $79 million.
Off-Balance Sheet Arrangements
At each of September 30,
2019 and December 31, 2018, Activision Blizzard had no significant relationships with unconsolidated entities or financial parties, often referred to as “structured finance” or “special purpose” entities, established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes, that have or are reasonably likely to have a material current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources.
Critical Accounting Policies and Estimates
Our
condensed consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America. These accounting principles require us to make certain estimates, judgments, and assumptions. We believe that the estimates, judgments, and assumptions upon which we rely are reasonable based upon information available to us at the time that they are made. These estimates, judgments, and assumptions can affect the reported amounts of assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the periods presented. To the extent there are material differences between these estimates, judgments, or assumptions and actual results, our financial statements will be affected. The accounting policies that reflect our more significant estimates, judgments, and assumptions, and which we believe are the most critical to aid in fully understanding and evaluating
our reported financial results, include the following:
•Revenue Recognition;
•Income Taxes;
•Allowances for Returns and Price Protection;
•Software Development Costs;
•Fair Value Estimates (including Business Combinations and Assessment of Impairment of Assets); and
•Share-Based Payments.
During the nine months ended September 30,
2019, there were no significant changes to the above critical accounting policies and estimates. Refer to Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2018, for a more complete discussion of our critical accounting policies and estimates.
Below
are recently issued accounting pronouncements that were most significant to our accounting policy activities. For a detailed discussion of all relevant recently issued accounting pronouncements, see Note 3 of the notes to the condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q.
Recently Adopted Accounting Pronouncements
Leases
As noted in Note 2 of the notes to the condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q, we adopted the new lease accounting standard effective January 1, 2019. We elected to apply an optional adoption method, which uses the
effective date as the initial date of application on transition with no retrospective adjustments to prior periods. Additionally, we elected to apply the package of transition practical expedients which permitted us to, among other things, (1) not reassess if existing contracts contained leases under the new lease accounting standard, and (2) carry forward our historical lease classifications.
For additional discussion regarding the impact of our adoption of the new lease accounting standard to our condensed consolidated balance sheet, see Note 3 of the notes to the condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q.
Item
3. Quantitative and Qualitative Disclosures about Market Risk
Market risk is the potential loss arising from fluctuations in market rates and prices. Our market risk exposures primarily include fluctuations in foreign currency exchange rates and interest rates.
Foreign Currency Exchange Rate Risk
We transact business in many different foreign currencies and may be exposed to financial market risk resulting from fluctuations in foreign currency exchange rates. Revenues and related expenses generated from our international operations are generally denominated in their respective local currencies. Primary currencies include euros, British pounds, Australian dollars, South Korean won, Chinese yuan, and
Swedish krona. To the extent the U.S. dollar strengthens against foreign currencies, the translation of these foreign currency-denominated transactions will result in reduced revenues, operating expenses, net income, and cash flows from our international operations. Similarly, our revenues, operating expenses, net income, and cash flows will increase for our international operations if the U.S. dollar weakens against foreign currencies. Since we have significant international sales, but incur the majority of our costs in the United States, the impact of foreign currency fluctuations, particularly the strengthening of the U.S. dollar, may have an asymmetric and disproportional impact on our business. We monitor currency volatility throughout the year.
To mitigate our foreign currency risk resulting from our foreign currency-denominated monetary assets, liabilities, and earnings
and our foreign currency risk related to functional currency-equivalent cash flows resulting from our intercompany transactions, we periodically enter into currency derivative contracts, principally forward contracts. These forward contracts generally have a maturity of less than one year. The counterparties for our currency derivative contracts are large and reputable commercial or investment banks.
The fair values of our foreign currency contracts
are estimated based on the prevailing exchange rates of the various hedged currencies as of the end of the period.
We do not hold or purchase any foreign currency forward contracts for trading or speculative purposes.
At
September 30, 2019, our Cash Flow Hedges have remaining maturities of three months or less. Additionally, $2 million of net realized but unrecognized gains are recorded within “Accumulated other comprehensive income (loss)” at September 30, 2019 for Cash Flow Hedges that had settled but were deferred and will be amortized into earnings, along with the associated hedged revenues. Such amounts will be reclassified into earnings within the next 12 months.
The amount of pre-tax net realized gains (losses) associated with our Cash Flow Hedges that were reclassified out of
“Accumulated other comprehensive income (loss)” and into earnings was as follows (amounts in millions):
For the Three Months Ended September 30,
For the Nine Months Ended September 30,
Statement
of Operations Classification
2019
2018
2019
2018
Cash Flow Hedges
$
7
$
3
$
24
$
(11
)
Net
revenues
Foreign Currency Forward Contracts Not Designated as Hedges
The total gross notional amounts and fair values of our foreign currency forward contracts not designated as hedges are as follows (amounts in millions):
For
the three and nine months ended September 30, 2019 and 2018, pre-tax net gains (losses) associated with these forward contracts were recorded in “General and administrative expenses” and were not material.
In the absence of hedging activities for the nine months ended September 30, 2019, a hypothetical adverse foreign currency exchange rate movement of 10% would have resulted in a theoretical decline of our
net income of approximately $78 million. This sensitivity analysis assumes a parallel adverse shift of all foreign currency exchange rates against the U.S. dollar; however, all foreign currency exchange rates do not always move in this manner and actual results may differ materially.
Our exposure to market rate risk for changes in interest rates relates primarily to our investment portfolio, as our outstanding debt is all at fixed rates. Our investment
portfolio consists primarily of money market funds and government securities with high credit quality and short average maturities. Because short-term securities mature relatively quickly and must be reinvested at the then-current market rates, interest income on a portfolio consisting of cash, cash equivalents, or short-term securities is more subject to market fluctuations than a portfolio of longer-term securities. Conversely, the fair value of such a portfolio is less sensitive to market fluctuations than a portfolio of longer-term securities. At September 30, 2019, our cash and cash equivalents were comprised primarily of money market funds.
The Company has determined that, based on the composition
of our investment portfolio as of September 30, 2019, there was no material interest rate risk exposure to the Company’s consolidated financial condition, results of operations, or liquidity as of that date.
Item 4. Controls and Procedures
Definition and Limitations of Disclosure Controls and Procedures
Our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under
the Securities Exchange Act of 1934 (the “Exchange Act”)) are designed to reasonably ensure that information required to be disclosed in our reports filed under the Exchange Act is: (1) recorded, processed, summarized, and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms; and (2) accumulated and communicated to management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosures. A control system, no matter how well designed and operated, can provide only reasonable assurance that it will detect or uncover failures within the Company to disclose material information otherwise required to be set forth in our periodic reports. Inherent limitations to any system of disclosure controls and procedures include, but are not limited to, the possibility
of human error and the circumvention or overriding of such controls by one or more persons. In addition, we have designed our system of controls based on certain assumptions, which we believe are reasonable, about the likelihood of future events, and our system of controls may therefore not achieve its desired objectives under all possible future events.
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our principal executive officer and principal financial officer, has evaluated the effectiveness of our disclosure controls and procedures at September 30, 2019, the end of the period covered by this report. Based on this evaluation, the principal executive
officer and principal financial officer concluded that, at September 30, 2019, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is (i) recorded, processed, summarized, and reported on a timely basis, and (ii) accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosures.
Changes in Internal Control Over Financial Reporting
Our
management, with the participation of our principal executive officer and principal financial officer, has evaluated any changes in our internal control over financial reporting that occurred during the fiscal quarter ended September 30, 2019. Based on this evaluation, the principal executive officer and principal financial officer concluded that, at September 30, 2019, there have not been any changes in our internal control over financial reporting during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
We are party to routine claims, suits, investigations, audits, and other proceedings arising from the ordinary course of business, including with respect to intellectual property rights, contractual claims, labor and employment matters, regulatory matters, tax matters, unclaimed property matters, compliance matters, and collection matters. In the opinion of management, after consultation with legal counsel, such routine claims and lawsuits are not significant, and we do not expect them to
have a material adverse effect on our business, financial condition, results of operations, or liquidity.
Item 1A. Risk Factors
Various risks associated with our business are described in Part I, Item 1A, “Risk Factors,” of our Annual Report on Form 10-K for the year ended December 31, 2018.
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Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.