Edgar Filing: Activision Blizzard, Inc.

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark one)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2013

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission File Number 1-15839

ACTIVISION BLIZZARD, INC.

(Exact name of registrant as specified in its charter)

Delaware		95-4803544
(State or other jurisdiction of		(I.R.S. Employer Identification No.)
incorporation or organization)

3100 Ocean Park Boulevard, Santa Monica, CA		90405
(Address of principal executive offices)		(Zip Code)

(310) 255-2000
(Registrant’s telephone number, including area code)

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. Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files). Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large Accelerated Filer x		Accelerated Filer o

Non-accelerated filer o		Smaller reporting company o
(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

The number of shares of the registrant’s Common Stock outstanding at July 25, 2013 was 1,119,457,954.

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ACTIVISION BLIZZARD, INC. AND SUBSIDIARIES

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	Cautionary Statement	3

PART I.	FINANCIAL INFORMATION

Item 1.	Financial Statements (Unaudited)

	Condensed Consolidated Balance Sheets at June 30, 2013 and December 31, 2012	4

	Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2013 and June 30, 2012	5

	Condensed Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2013 and June 30, 2012	6

	Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2013 and June 30, 2012	7

	Condensed Consolidated Statement of Changes in Shareholders’ Equity for the six months ended June 30, 2013	8

	Notes to Condensed Consolidated Financial Statements	9

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	22

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	39

Item 4.	Controls and Procedures	39

PART II.	OTHER INFORMATION	40

Item 1.	Legal Proceedings	40

Item 1A.	Risk Factors	40

Item 6.	Exhibits	41

SIGNATURE		42

EXHIBIT INDEX		43

CERTIFICATIONS

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CAUTIONARY STATEMENT

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 fact 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 relating to product releases; (3) statements of future financial or operating performance;(4) statements about the completion, timing, financing, and impact of the transactions described herein; and (5) statements of assumptions underlying such statements. Activision Blizzard, Inc. (“Activision Blizzard”) generally uses words such as “outlook,” “forecast,” “will,” “could,” “should,” “would,” “to be,” “plans,” “believes,” “may,” “expects,” “intends,” “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 risk, reflect management’s current expectations, estimates and projections about our business, and are inherently uncertain and difficult to predict. Our actual results could differ materially. Risks and uncertainties that may affect our future results include, but are not limited to, sales levels of Activision Blizzard’s titles, increasing concentration of titles, shifts in consumer spending trends, the impact of the current macroeconomic environment, Activision Blizzard’s ability to predict consumer preferences, including interest in specific genres such as first-person action and massively multiplayer online games and preferences among hardware platforms, the seasonal and cyclical nature of the interactive game market, changing business models including digital delivery of content, competition including from used games and other forms of entertainment, possible declines in software pricing, product returns and price protection, product delays, adoption rate and availability of new hardware (including peripherals) and related software, particularly during the upcoming console transition, rapid changes in technology and industry standards, litigation risks and associated costs, protection of proprietary rights, maintenance of relationships with key personnel, customers, licensees, licensors, vendors, and third-party developers, including the ability to attract, retain and develop key personnel and developers that can create high quality “hit” titles, counterparty risks relating to customers, licensees, licensors and manufacturers, domestic and international economic, financial and political conditions and policies, foreign exchange rates and tax rates, the identification of suitable future acquisition opportunities and potential challenges associated with geographic expansion, capital market risks, the possibility that expected benefits related to the pending transactions may not materialize as expected, the pending transactions not being timely completed, if completed at all, 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, 2012, as amended, and this Quarterly Report on Form 10-Q. The forward-looking statements contained herein are based upon information available to us as of the date of this Quarterly Report on Form 10-Q 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. All other product or service names are the property of their respective owners.

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ACTIVISION BLIZZARD, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

(Amounts in millions, except share data)

	At June 30,			At December 31,
	2013			2012
Assets
Current assets:
Cash and cash equivalents	$	4,341		$	3,959
Short-term investments	205			416
Accounts receivable, net of allowances of $211 and $332 at June 30, 2013 and December 31, 2012, respectively	117			707
Inventories, net	131			209
Software development	304			164
Intellectual property licenses	11			11
Deferred income taxes, net	335			487
Other current assets	185			321
Total current assets	5,629			6,274

Long-term investments	9			8
Software development	35			129
Intellectual property licenses	—			30
Property and equipment, net	132			141
Other assets	10			11
Intangible assets, net	61			68
Trademark and trade names	433			433
Goodwill	7,102			7,106
Total assets	$	13,411		$	14,200

Liabilities and Shareholders’ Equity
Current liabilities:
Accounts payable	$	139		$	343
Deferred revenues	665			1,657
Accrued expenses and other liabilities	389			652
Total current liabilities	1,193			2,652
Deferred income taxes, net	77			25
Other liabilities	206			206
Total liabilities	1,476			2,883

Commitments and contingencies (Note 12)

Shareholders’ equity:
Common stock, $0.000001 par value, 2,400,000,000 shares authorized, 1,119,015,481 and 1,111,606,087 shares issued at June 30, 2013 and December 31, 2012, respectively	—			—
Additional paid-in capital	9,541			9,450
Retained earnings	2,456			1,893
Accumulated other comprehensive income (loss)	(62		)	(26		)
Total shareholders’ equity	11,935			11,317
Total liabilities and shareholders’ equity	$	13,411		$	14,200

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

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ACTIVISION BLIZZARD, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

(Amounts in millions, except per share data)

	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
	2013		2012		2013		2012
Net revenues
Product sales	$	727	$	798	$	1,717	$	1,672
Subscription, licensing, and other revenues	323		277		658		575
Total net revenues	1,050		1,075		2,375		2,247

Costs and expenses
Cost of sales — product costs	179		229		440		486
Cost of sales — online subscriptions	54		71		111		140
Cost of sales — software royalties and amortization	38		57		99		88
Cost of sales — intellectual property licenses	14		20		52		27
Product development	123		145		247		259
Sales and marketing	116		136		223		216
General and administrative	96		190		186		291
Total costs and expenses	620		848		1,358		1,507

Operating income	430		227		1,017		740

Investment and other income (expense), net	—		2		3		3

Income before income tax expense	430		229		1,020		743

Income tax expense	106		44		240		174

Net income	$	324	$	185	$	780	$	569

Earnings per common share
Basic	$	0.28	$	0.16	$	0.68	$	0.50
Diluted	$	0.28	$	0.16	$	0.68	$	0.50

Weighted-average number of shares outstanding
Basic	1,118		1,109		1,116		1,115
Diluted	1,127		1,115		1,124		1,121

Dividends per common share	$	—	$	—	$	0.19	$	0.18

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

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ACTIVISION BLIZZARD, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

(Amounts in millions)

	For the Three Months Ended					For the Six Months Ended
	June 30,					June 30,
	2013		2012			2013			2012

Net income	$	324	$	185		$	780		$	569

Other comprehensive income (loss):
Foreign currency translation adjustment	33		(91		)	(37		)	(53		)
Unrealized gains on investments, net of deferred income taxes of $0 million for the three and six months ended June 30, 2013 and 2012	—		—			1			1
Other comprehensive income (loss)	$	33	$	(91	)	$	(36	)	$	(52	)

Comprehensive income	$	357	$	94		$	744		$	517

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

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ACTIVISION BLIZZARD, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Amounts in millions)

	For the Six Months Ended
	June 30,
	2013			2012
Cash flows from operating activities:
Net income	$	780		$	569
Adjustments to reconcile net income to net cash provided by operating activities:
Deferred income taxes	209			29
Depreciation and amortization	47			45
Amortization and write-off of capitalized software development costs and intellectual property licenses (1)	126			102
Stock-based compensation expense (2)	50			49
Excess tax benefits from stock option exercises	(5		)	(3		)
Changes in operating assets and liabilities:
Accounts receivable, net	583			421
Inventories, net	76			15
Software development and intellectual property licenses	(140		)	(146		)
Other assets	132			246
Deferred revenues	(974		)	(564		)
Accounts payable	(197		)	(228		)
Accrued expenses and other liabilities	(253		)	(290		)
Net cash provided by operating activities	434			245

Cash flows from investing activities:
Proceeds from maturities of available-for-sale investments	229			253
Purchases of available-for-sale investments	(26		)	(302		)
Capital expenditures	(36		)	(26		)
Decrease in restricted cash	9			1
Net cash provided by (used in) investing activities	176			(74		)

Cash flows from financing activities:
Proceeds from issuance of common stock to employees	51			23
Tax payment related to net share settlements of restricted stock rights	(16		)	(3		)
Repurchase of common stock	—			(315		)
Dividends paid	(216		)	(204		)
Excess tax benefits from stock option exercises	5			3
Net cash used in financing activities	(176		)	(496		)

Effect of foreign exchange rate changes on cash and cash equivalents	(52		)	(54		)

Net increase (decrease) in cash and cash equivalents	382			(379		)

Cash and cash equivalents at beginning of period	3,959			3,165

Cash and cash equivalents at end of period	$	4,341		$	2,786

(1) Excludes deferral and amortization of stock-based compensation expense.

(2) Includes the net effects of capitalization, deferral, and amortization of stock-based compensation expense.

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

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ACTIVISION BLIZZARD, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY

For the Six Months Ended June 30, 2013

(Unaudited)

(Amounts in millions)

											Accumulated
					Additional						Other			Total
	Common Stock				Paid-In			Retained			Comprehensive			Shareholders’
	Shares		Amount		Capital			Earnings			Income (Loss)			Equity
Balance at December 31, 2012	1,112		$	—	$	9,450		$	1,893		$	(26	)	$	11,317

Components of comprehensive income (loss):
Net income	—		—		—			780			—			780
Other comprehensive income (loss)	—		—		—			—			(36		)	(36		)
Issuance of common stock pursuant to employee stock options	5		—		51			—			—			51
Issuance of common stock pursuant to restricted stock rights	3		—		—			—			—			—
Restricted stock surrendered for employees’ tax liability	(1	)	—		(16		)	—			—			(16		)
Tax benefit associated with employee stock options	—		—		3			—			—			3
Stock-based compensation expense related to employee stock options and restricted stock rights	—		—		53			—			—			53
Dividends ($0.19 per common share) (See Note 11)	—		—		—			(217		)	—			(217		)

Balance at June 30, 2013	1,119		$	—	$	9,541		$	2,456		$	(62	)	$	11,935

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

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ACTIVISION BLIZZARD, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

1. Description of business and basis of consolidation and presentation

Description of Business

Activision Blizzard, Inc. is a worldwide online, personal computer (“PC”), video game console, handheld, and mobile game publisher. The terms “Activision Blizzard,” the “Company,” “we,” “us,” and “our” are used to refer collectively to Activision Blizzard, Inc. and its subsidiaries. We maintain significant operations in the United States, Canada, the United Kingdom, France, Germany, Ireland, Italy, Sweden, Spain, the Netherlands, Australia, South Korea and China.

Activision Blizzard is the result of the 2008 business combination (“Business Combination”) by and among Activision, Inc., Sego Merger Corporation, a wholly-owned subsidiary of Activision, Inc., Vivendi S.A. (“Vivendi”), VGAC LLC, a wholly-owned subsidiary of Vivendi, and Vivendi Games, Inc. (“Vivendi Games”), a wholly-owned subsidiary of VGAC LLC. In connection with the consummation of the Business Combination, Activision, Inc. was renamed Activision Blizzard, Inc.

The common stock of Activision Blizzard is traded on The NASDAQ Stock Market under the ticker symbol “ATVI.” Vivendi owned approximately 61% of Activision Blizzard’s outstanding common stock at June 30, 2013.

Based upon our current organizational structure, we have three operating segments as follows:

Activision Publishing, Inc.

Activision Publishing, Inc. (“Activision”) is a leading international developer and publisher of interactive software products and content. Activision develops games based on both internally-developed and licensed intellectual property. Activision markets and sells games we develop and, through our affiliate label program, games developed by certain third-party publishers. We sell games both through retail channels and by digital download. Activision currently offers games that operate on the Sony Computer Entertainment, Inc. (“Sony”) PlayStation 3 (“PS3”), Nintendo Co. Ltd. (“Nintendo”) Wii (“Wii”) and Nintendo Wii U (“Wii U”), and Microsoft Corporation (“Microsoft”) Xbox 360 (“Xbox 360”) console systems; the Nintendo Dual Screen (“DS”) and Nintendo 3DS (“3DS”) handheld game systems; the PC; and other handheld and mobile devices. We are investing in, developing, and planning to release games for Sony’s and Microsoft’s next-generation console systems, the PlayStation 4 (“PS4”) and Xbox One (“Xbox One”), respectively.

Blizzard Entertainment, Inc.

Blizzard Entertainment, Inc. (“Blizzard”) is a leader in the subscription-based massively multi-player online role-playing game (“MMORPG”) category in terms of both subscriber base and revenues generated through its World of Warcraft® franchise, which it develops, hosts and supports. Blizzard also develops, markets and sells role-playing action and strategy PC-based computer games, including games in the multiple-award winning Diablo® and StarCraft® franchises. In addition, Blizzard maintains a proprietary online-game related service, Battle.net®. Blizzard distributes its products and generates revenues worldwide through various means, including: subscriptions; sales of prepaid subscription cards; revenue from value-added services such as realm transfers, faction changes, and other character customizations within the World of Warcraft gameplay; retail sales of physical “boxed” products; online download sales of PC products; and licensing of software to third-party or related party companies that distribute World of Warcraft, Diablo III, and StarCraft II products.

Activision Blizzard Distribution

Activision Blizzard Distribution (“Distribution”) consists of operations in Europe that provide warehousing, logistical and sales distribution services to third-party publishers of interactive entertainment software, our own publishing operations, and manufacturers of interactive entertainment hardware.

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Basis of Consolidation and Presentation

Activision Blizzard prepared the accompanying unaudited condensed consolidated financial statements in accordance with the rules and regulations of the Securities and Exchange Commission for interim reporting. As permitted under those rules and regulations, certain notes or other information that are normally required by accounting principles generally accepted in the United States of America (“U.S. GAAP”) have been condensed or omitted if they substantially duplicate the disclosures contained in the annual audited consolidated financial statements. The year-end condensed balance sheet data was derived from audited financial statements but does not include all disclosures required by U.S. GAAP. 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, 2012, as amended. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for the fair statement of our financial position and results of operations in accordance with U.S. GAAP have been included in the accompanying unaudited condensed consolidated financial statements.

The accompanying condensed consolidated financial statements include the accounts and operations of the Company. All intercompany accounts and transactions have been eliminated. The condensed consolidated financial statements have been prepared in conformity with U.S. GAAP. 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. Actual results could differ from these estimates and assumptions.

Certain reclassifications have been made to prior period amounts to conform to the current period presentation.

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.

Results of Adjustments

During the three months ended June 30, 2013, we identified through our internal processes that, in previous years, we erroneously under-accrued for certain indirect taxes for two countries in our Europe region. We performed an evaluation under SEC Staff Accounting Bulletin No. 108 and concluded the effect of this error was immaterial to prior years’ financial statements as well as the projected full-year 2013 financial statements. As such, during the three months ended June 30, 2013, we recorded an adjustment in our condensed consolidated statements of operations which reduced “Total net revenues” by $8 million, “Investment and other income (expense), net” by $1 million, “Income before income tax expense” by $9 million, and “Net income” by $7 million. This adjustment reduced net revenues and income from operations before income tax expense by $8 million and $9 million, respectively, in each of our Blizzard segment, Europe region, and online subscriptions platform, as presented in footnote 7 of the notes to the condensed consolidated financial statements. The adjustment increased “Accrued expenses and other liabilities” on our condensed consolidated balance sheet by $9 million and represents a correction of an error. Operating cash flows will be impacted by $9 million in the period we settle the liability. The adjustment related to prior periods’ net income as follows: (i) approximately $1 million for the quarter ended March 31, 2013; (ii) approximately $1 million for each quarter of 2012 (totaling approximately $4 million for the year ended December 31, 2012); (iii) approximately $2 million for the year ended December 31, 2011; and (iv) less than $1 million for the year ended December 31, 2010. Earnings per basic and diluted share were affected by less than $0.01 as a result of recording this adjustment.

During the three months ended June 30, 2012, we identified through our internal processes that, in previous years, we erroneously over-recognized revenue for a country in our Europe region. We performed an evaluation under SEC Staff Accounting Bulletin No. 108 and concluded the effect of this error was immaterial to prior years’ financial statements as well as the projected full-year 2012 financial statements. As such, during the three months ended June 30, 2012, we recorded an adjustment in our condensed consolidated statements of operations which reduced “Total net revenues” by $11 million and “Net income” by $8 million. This adjustment reduced net revenues and income from operations before income tax expense by $11 million in each of our Blizzard segment, Europe region, and online subscriptions platform, as presented in footnote 7 of the notes to the condensed consolidated financial statements. The adjustment increased “Deferred revenues” on our condensed consolidated balance sheet by $11 million and represents a correction of an error. There was no impact to operating cash flows. The adjustment related to prior periods’ net income as follows: (i) approximately $1 million for the quarter ended March 31, 2012; (ii) less than $1 million for each quarter of 2011 (totaling approximately $3 million for the year ended December 31, 2011); (iii) approximately $2 million for the year ended December 31, 2010; and (iv) approximately $3 million for periods prior to the year ended December 31, 2010. Earnings per basic and diluted share were affected by less than $0.01 as a result of recording this adjustment.

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2. Inventories, net

Our inventories, net consist of the following (amounts in millions):

	At June 30, 2013		At December 31, 2012
Finished goods	$	90	$	151
Purchased parts and components	41		58
Inventories, net	$	131	$	209

3. Intangible assets, net

Intangible assets, net consist of the following (amounts in millions):

	At June 30, 2013
	Estimated	Gross
	useful	carrying		Accumulated			Net carrying
	lives	amount		amortization			amount
Acquired definite-lived intangible assets:
License agreements and other	3 - 10 years	$	98	$	(89	)	$	9
Internally-developed franchises	11 - 12 years	309		(257		)	52
Total definite-lived intangible assets		$	407	$	(346	)	$	61

Acquired indefinite-lived intangible assets:
Activision trademark	Indefinite						386
Acquired trade names	Indefinite						47
Total indefinite-lived intangible assets							$	433

	At December 31, 2012
	Estimated	Gross
	useful	carrying		Accumulated			Net carrying
	lives	amount		amortization			amount

Acquired definite-lived intangible assets:
License agreements and other	3 - 10 years	$	98	$	(88	)	$	10
Internally-developed franchises	11 - 12 years	309		(251		)	58
Total definite-lived intangible assets		$	407	$	(339	)	$	68

Acquired indefinite-lived intangible assets:
Activision trademark	Indefinite						386
Acquired trade names	Indefinite						47
Total indefinite-lived intangible assets							$	433

Amortization expense of intangible assets was $3 million and $6 million for the three and six months ended June 30, 2013, respectively. Amortization expense of intangible assets was $2 million and $5 million for the three and six months ended June 30, 2012, respectively.

At June 30, 2013, future amortization of definite-lived intangible assets is estimated as follows (amounts in millions):

2013 (remaining six months)	$	20
2014	18
2015	10
2016	6
2017	3
Thereafter	4

Total	$	61

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4. Income taxes

The income tax expense of $106 million for the three months ended June 30, 2013 reflected an effective tax rate of 24.7%, which is higher than the effective tax rate of 19.2% for the three months ended June 30, 2012. This is primarily due to a decrease in the proportional amount of earnings in foreign jurisdictions with a relatively lower statutory rate (as compared to domestic earnings with a relatively higher statutory rate).

The effective tax rate of 24.7% for the three months ended June 30, 2013 differed from the U.S. statutory rate of 35.0%, primarily due to foreign income taxes levied at relatively lower rates, the geographic mix in profitability, recognition of federal and California research and development (“R&D”) credits, and the federal domestic production deduction.

Our tax expense of $240 million for the six months ended June 30, 2013 reflected an effective tax rate of 23.5% compared to an effective tax rate of 23.4% for the six months ended June 30, 2012. For the six months ended June 30, 2013, the geographic mix of earnings, as compared to the six months ended June 30, 2012, were proportionally lower in foreign jurisdictions with a relatively lower statutory rate, as compared to domestic earnings with a relatively higher statutory rate, resulting in an increase in the effective rate over the prior period. However, the impact of this increase was mostly offset by the recognition of the retroactive reinstatement of the federal R&D tax credit for the tax year ended December 31, 2012, which was enacted in the first quarter of 2013. The Company recorded a benefit of $12 million related to the federal R&D tax credit for the tax year ended December 31, 2012 as a discrete item in the first quarter of 2013.

The overall effective income tax rate for the year could be different from the effective tax rate for the three and six months ended June 30, 2013 and will be dependent, in part, on our profitability for the remainder of the year. In addition, our effective income tax rates for the remainder of 2013 and future periods will depend on a variety of factors, such as changes in the mix of income by tax jurisdiction, applicable accounting rules, applicable tax laws and regulations, rulings and interpretations thereof, developments in tax audits and other matters, and variations in the estimated and actual level of annual pre-tax income or loss. Further, the effective tax rate could fluctuate significantly on a quarterly basis and could be adversely affected by the extent that income (loss) before income tax expenses (benefit) is lower than anticipated in foreign regions, where taxes are levied at relatively lower statutory rates, and/or higher than anticipated in the United States, where taxes are levied at relatively higher statutory rates.

The Internal Revenue Service is currently examining Activision Blizzard’s federal tax returns for the 2008 and 2009 tax years and Vivendi Games’s tax returns for the 2005 through 2008 tax years. While Vivendi Games’s results for the period January 1, 2008 through July 9, 2008 are included in the consolidated federal and certain foreign, state and local income tax returns filed by Vivendi or its affiliates, Vivendi Games’s results for the period July 10, 2008 through December 31, 2008 are included in the consolidated federal and certain foreign, state and local income tax returns filed by Activision Blizzard. Additionally, the Company has several state and non-U.S. audits pending. Although the final resolution of the Company’s global tax disputes is uncertain, based on current information, in the opinion of the Company’s management, the ultimate resolution of these matters will not have a material adverse effect on the Company’s consolidated financial position, liquidity or results of operations. However, an unfavorable resolution of the Company’s global tax disputes could have a material adverse effect on our business and results of operations in the period in which the matters are ultimately resolved.

5. Software development and intellectual property licenses

The following table summarizes the components of our capitalized software development costs and intellectual property licenses (amounts in millions):

	At		At
	June 30,		December 31,
	2013		2012
Internally developed software costs	$	167	$	159
Payments made to third-party software developers	172		134
Total software development costs	$	339	$	293

Intellectual property licenses	$	11	$	41

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Amortization, write-offs and impairments of capitalized software development costs and intellectual property licenses are comprised of the following (amounts in millions):

	Three Months Ended June 30,				Six months ended June 30,
	2013		2012		2013		2012
Amortization of capitalized software development costs and intellectual property licenses	$	46	$	68	$	108	$	99
Write-offs and impairments	—		6		26		8

6. Fair value measurements

Fair Value Measurements on a Recurring Basis

Financial Accounting Standards Board (“FASB”) literature regarding fair value measurements for financial and non-financial 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.

The table below segregates all financial assets that are measured at fair value on a recurring basis (which means they are so measured at least annually) 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):

			Fair Value Measurements at
			June 30, 2013 Using
			Quoted
			Prices in
			Active		Significant
			Markets for		Other		Significant
	As of		Identical		Observable		Unobservable
	June 30,		Assets		Inputs		Inputs		Balance Sheet
	2013		(Level 1)		(Level 2)		(Level 3)		Classification
Recurring fair value measurements:
Money market funds	$	4,173	$	4,173	$	—	$	—	Cash and cash equivalents
Foreign government treasury bills	33		33		—		—		Cash and cash equivalents
U.S. treasuries and government agency securities	195		195		—		—		Short-term investments
Auction rate securities (“ARS”)	9		—		—		9		Long-term investments
Total recurring fair value measurements	$	4,410	$	4,401	$	—	$	9

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			Fair Value Measurements at
			December 31, 2012 Using
			Quoted
			Prices in
			Active		Significant
			Markets for		Other		Significant
	As of		Identical		Observable		Unobservable
	December 31,		Assets		Inputs		Inputs		Balance Sheet
	2012		(Level 1)		(Level 2)		(Level 3)		Classification
Recurring fair value measurements:
Money market funds	$	3,511	$	3,511	$	—	$	—	Cash and cash equivalents
U.S. treasuries and government agency securities	387		387		—		—		Short-term investments
Corporate bonds	11		11		—		—		Short-term investments
ARS	8		—		—		8		Long-term investments
Total recurring fair value measurements	$	3,917	$	3,909	$	—	$	8

The following tables provide a reconciliation of the beginning and ending balances of our financial assets classified as Level 3 by major categories (amounts in millions) at June 30, 2013 and 2012, respectively:

	Level 3
			Total
			financial
			assets at
	ARS		fair
	(a)		value
Balance at December 31, 2012	$	8	$	8
Total unrealized gains included in other comprehensive income	1		1
Balance at June 30, 2013	$	9	$	9

	Level 3
			Total
			financial
			assets at
	ARS		fair
	(a)		value
Balance at December 31, 2011	$	16	$	16
Total unrealized gains included in other comprehensive income	1		1
Balance at June 30, 2012	$	17	$	17

(a) Fair value measurements have been estimated using an income-approach model (specifically, discounted cash-flow analysis). When estimating the fair value, we consider both observable market data and non-observable factors, including credit quality, duration, insurance wraps, collateral composition, maximum rate formulas, comparable trading instruments, and the likelihood of redemption. Significant assumptions used in the analysis include estimates for interest rates, spreads, cash flow timing and amounts, and holding periods of the securities. At June 30, 2013, assets measured at fair value using significant unobservable inputs (Level 3), all of which were ARS, represent less than 1% of our financial assets measured at fair value on a recurring basis.

Foreign Currency Forward Contracts Not Designated as Hedges

We transact business in various currencies other than the U.S. dollar and have significant international sales and expenses denominated in currencies other than the U.S. dollar, subjecting us to currency exchange rate risks. To mitigate our risk from foreign currency fluctuations we periodically enter into currency derivative contracts, principally forward contracts with maturities of twelve months or less, with Vivendi as our principal counterparty. We do not hold or purchase any foreign currency contracts for trading or speculative purposes and we do not designate these forward contracts as hedging instruments. Accordingly, we report the fair value of these contracts in our condensed consolidated balance sheet within “Other current assets” or “Other current liabilities” and with changes in fair value recorded in our condensed consolidated statement of operations within “Investment and other income (expense), net” and “General and administrative expense.” The fair value of foreign currency contracts is estimated based on the prevailing exchange rates of the various hedged currencies as of the end of the period and was not material as of June 30, 2013 and December 31, 2012.

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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. For the three and six months ended June 30, 2013 and 2012, there were no impairment charges related to assets that are measured on a non-recurring basis.

7. Operating segments and geographic region

Our operating segments are consistent with our internal organizational structure, the manner in which our operations are reviewed and managed by our Chief Executive Officer, who is our Chief Operating Decision Maker (“CODM”), the manner in which we assess operating performance and allocate resources, and the availability of separate financial information. Currently, we operate under three operating segments: Activision, Blizzard and Distribution (see Note 1 of the Notes to the Condensed Consolidated Financial Statements). We do not aggregate operating segments.

The CODM reviews segment performance exclusive of the impact of the change in deferred net revenues and related cost of sales with respect to certain of our online-enabled games, stock-based compensation expense, and amortization of intangible assets as a result of purchase price accounting. The CODM does not review any information regarding total assets on an operating segment basis, and accordingly, no disclosure is made with respect thereto. Information on the operating segments and reconciliations of total net revenues and total segment operating income to consolidated net revenues from external customers and consolidated income before income tax expense for the three and six months ended June 30, 2013 and 2012 are presented below (amounts in millions):

	Three months ended June 30,
	2013		2012		2013			2012
					Income from operations
	Net revenues				before income tax expense

Activision	$	347	$	373	$	60		$	(71	)
Blizzard	224		634		60			371
Distribution	37		47		(1		)	—
Operating segments total	608		1,054		119			300

Reconciliation to consolidated net revenues / consolidated income before income tax expense:
Net effect from deferral of net revenues and related cost of sales	442		21		338			(40		)
Stock-based compensation expense	—		—		(24		)	(31		)
Amortization of intangible assets	—		—		(3		)	(2		)
Consolidated net revenues / operating income	$	1,050	$	1,075	430			227
Investment and other income (expense), net					—			2
Consolidated income before income tax expense					$	430		$	229

	Six months ended June 30,
	2013		2012		2013			2012
					Income from operations
	Net revenues				before income tax expense
Activision	$	771	$	645	$	173		$	(70	)
Blizzard	554		884		194			460
Distribution	88		112		(1		)	—
Operating segments total	1,413		1,641		366			390

Reconciliation to consolidated net revenues / consolidated income before income tax expense:
Net effect from deferral of net revenues and related cost of sales	962		606		707			407
Stock-based compensation expense	—		—		(50		)	(52		)
Amortization of intangible assets	—		—		(6		)	(5		)
Consolidated net revenues / operating income	$	2,375	$	2,247	$	1,017		$	740
Investment and other income (expense), net					3			3
Consolidated income before income tax expense					$	1,020		$	743

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Geographic information for the three and six months ended June 30, 2013 and 2012 is based on the location of the selling entity. Net revenues from external customers by geographic region were as follows (amounts in millions):

	Three months ended June 30,				Six months ended June 30,
	2013		2012		2013		2012
Net revenues by geographic region:
North America	$	562	$	562	$	1,300	$	1,163
Europe	402		403		889		888
Asia Pacific	86		110		186		196
Total consolidated net revenues	$	1,050	$	1,075	$	2,375	$	2,247

Net revenues by platform were as follows (amounts in millions):

	Three months ended June 30,				Six months ended June 30,
	2013		2012		2013		2012
Net revenues by platform:
Console	$	590	$	514	$	1,339	$	1,203
Online subscriptions(1)	233		220		508		475
Other(2)	90		143		245		259
PC	100		151		195		198
Total platform net revenues	1,013		1,028		2,287		2,135
Distribution	37		47		88		112
Total consolidated net revenues	$	1,050	$	1,075	$	2,375	$	2,247

(1) Revenues from online subscriptions consist of revenues from all World of Warcraft products, including subscriptions, boxed products, expansion packs, licensing royalties, value-added services, and revenues from Call of Duty® Elite memberships.

(2) Revenues from other include revenues from handheld and mobile devices, as well as non-platform specific game related revenues such as standalone sales of toys and accessories products from the Skylanders® franchise and other physical merchandise and accessories.

Long-lived assets by geographic region at June 30, 2013 and December 31, 2012 were as follows (amounts in millions):

	At June 30, 2013		At December 31, 2012
Long-lived assets* by geographic region:
North America	$	92	$	90
Europe	32		40
Asia Pacific	8		11
Total long-lived assets by geographic region	$	132	$	141

*The only long-lived assets that we classify by region are our long term tangible fixed assets, which only include property, plant and equipment assets; all other long term assets are not allocated by location.

We did not have any single external customer that accounted for 10% or more of consolidated net revenues for the three and six months ended June 30, 2013 and 2012.

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8. Goodwill

The changes in the carrying amount of goodwill by operating segment for the six months ended June 30, 2013 are as follows (amounts in millions):

	Activision			Blizzard		Total

Balance at December 31, 2012	$	6,928		$	178	$	7,106
Tax benefit credited to goodwill	(3		)	—		(3		)
Foreign exchange	(1		)	—		(1		)

Balance at June 30, 2013	$	6,924		$	178	$	7,102

The tax benefit credited to goodwill represents the tax deduction resulting from the exercise of stock options that were outstanding and vested at the consummation of the Business Combination and included in the purchase price of the Company, to the extent that the tax deduction did not exceed the fair value of those options. Conversely, to the extent that the tax deduction did exceed the fair value of those options, the tax benefit is credited to additional paid-in capital.

9. Computation of basic/diluted earnings per common share

The following table sets forth the computation of basic and diluted earnings per common share (amounts in millions, except per share data):

	Three Months Ended June 30,						Six months ended June 30,
	2013			2012			2013			2012

Numerator:
Consolidated net income	$	324		$	185		$	780		$	569
Less: Distributed earnings to unvested stock-based awards that participate in earnings	—			—			(4		)	(4		)
Less: Undistributed earnings allocated to unvested stock-based awards that participate in earnings	(6		)	(4		)	(12		)	(7		)
Numerator for basic and diluted earnings per common share - net income available to common shareholders	318			181			764			558

Denominator:
Denominator for basic earnings per common share - weighted-average common shares outstanding	1,118			1,109			1,116			1,115

Effect of potential dilutive common shares under the treasury stock method:
Employee stock options	9			6			8			6
Denominator for diluted earnings per common share - weighted-average common shares outstanding plus dilutive effect of employee stock options	1,127			1,115			1,124			1,121

Basic earnings per common share	$	0.28		$	0.16		$	0.68		$	0.50

Diluted earnings per common share	$	0.28		$	0.16		$	0.68		$	0.50

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Our unvested restricted stock rights, which consist of restricted stock units, restricted stock awards, and performance shares, are considered participating securities, as these securities generally have non-forfeitable rights to dividends or dividend equivalents during the contractual period of the award. Since the unvested restricted stock rights are considered participating securities, we are required to use the two-class method in our computation of basic and diluted earnings per common share. For the three and six months ended June 30, 2013, we had outstanding unvested restricted stock rights with respect to 24 million and 25 million shares of common stock on a weighted-average basis, respectively. For the three and six months ended June 30, 2012, we had outstanding unvested restricted stock rights with respect to 24 million and 22 million shares of common stock on a weighted-average basis, respectively.

Potential common shares are not included in the denominator of the diluted earnings per common share calculation when inclusion of such shares would be anti-dilutive. Therefore, options to acquire 8 million and 9 million shares of common stock were not included in the calculation of diluted earnings per common share for the three and six months ended June 30, 2013, respectively, and options to acquire 20 million shares of common stock were not included in the calculation of diluted earnings per common share for both the three and six months ended June 30, 2012.

10. Accumulated other comprehensive income (loss)

The components of accumulated other comprehensive income (loss) at June 30, 2013 and 2012, were as follows (amounts in millions):

	For the six months ended June 30, 2013
	Foreign currency			Unrealized gain
	translation			on available-for-
	adjustments			sale securities		Total
Balance at January 1, 2013	$	(26	)	$	—	$	(26	)
Other comprehensive income (loss) before reclassifications	(37		)	1		(36		)
Amounts reclassified from accumulated other comprehensive income (loss)	—			—		—
Balance at June 30, 2013	$	(63	)	$	1	$	(62	)

	For the six months ended June 30, 2012
	Foreign currency			Unrealized gain
	translation			on available-for-
	adjustments			sale securities		Total
Balance at January 1, 2012	$	(72	)	$	—	$	(72	)
Other comprehensive income (loss) before reclassifications	(53		)	1		(52		)
Amounts reclassified from accumulated other comprehensive income (loss)	—			—		—
Balance at June 30, 2012	$	(125	)	$	1	$	(124	)

Income taxes were not provided for foreign currency translation items as these are considered indefinite investments in non-U.S. subsidiaries.

11. Capital transactions

Repurchase Program

On February 2, 2012, our Board of Directors authorized a stock repurchase program under which we were authorized to repurchase up to $1 billion of our common stock, on terms and conditions to be determined by the Company, during the period between April 1, 2012 and March 31, 2013. There were no repurchases pursuant to this stock repurchase program during the six months ended June 30, 2013. For the six months ended June 30, 2012, we repurchased 4 million shares of our common stock for an aggregate purchase price of $54 million pursuant to this stock repurchase program.

On February 3, 2011, our Board of Directors authorized a stock repurchase program under which we were authorized to repurchase up to $1.5 billion of our common stock, on terms and conditions to be determined by the Company, until March 31, 2012. For the six months ended June 30, 2012, we repurchased 22 million shares of our common stock for an aggregate purchase price of $261 million pursuant to this stock repurchase program.

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Dividend

On February 7, 2013, our Board of Directors declared a cash dividend of $0.19 per common share payable on May 15, 2013 to shareholders of record at the close of business on March 20, 2013. On May 15, 2013, we made an aggregate cash dividend payment of $212 million to such shareholders, and on May 31, 2013, we made related dividend equivalent payments of $4 million to the holders of restricted stock rights.

On February 9, 2012, our Board of Directors declared a cash dividend of $0.18 per common share to be paid on May 16, 2012 to shareholders of record at the close of business on March 21, 2012. On May 16, 2012, we made an aggregate cash dividend payment of $201 million to such shareholders, and on June 1, 2012, we made related dividend equivalent payments of $3 million to the holders of restricted stock rights.

12. Commitments and contingencies

At June 30, 2013, we did not have any significant changes to our commitments since December 31, 2012. See Note 17 of the Notes to Consolidated Financial Statements included in Item 8 of the Annual Report on Form 10-K for the year ended December 31, 2012, as amended, for more information regarding our commitments.

Legal Proceedings

The Company is subject to various legal proceedings and claims. FASB Accounting Standards Codification (“ASC”) Topic 450 governs the disclosure of loss contingencies and accrual of loss contingencies in respect to litigation and other claims. The Company records an accrual for a potential loss when it is probable that a loss will occur and the amount of the loss can be reasonably estimated. When the reasonable estimate of the potential loss is within a range of amounts, the minimum of the range of potential loss is accrued, unless a higher amount within the range is a better estimate than any other amount within the range. Moreover, even if an accrual is not required, the Company provides additional disclosure related to litigation and other claims when it is reasonably possible (i.e., more than remote) that the outcomes of such litigation and other claims include potential material adverse impacts on the Company.

The outcomes of legal proceedings and other claims are subject to significant uncertainties, many of which are outside the Company’s control. There is significant judgment required in the analysis of these matters, including the probability determination and whether a potential exposure can be reasonably estimated. In making these determinations, the Company, in consultation with outside counsel, examines the relevant facts and circumstances on a quarterly basis assuming, as applicable, a combination of settlement and litigated outcomes and strategies. Moreover, legal matters are inherently unpredictable and the timing of development of factors on which reasonable judgments and estimates can be based can be slow. As such, there can be no assurance that the final outcome of any legal matter will not materially and adversely affect our business, financial condition, results of operations, or liquidity.

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.

13. Related party transactions

Treasury

Our foreign currency risk management program seeks to reduce risks arising from foreign currency fluctuations. We use derivative financial instruments, primarily forward contracts, with Vivendi as our principal counterparty. The gross notional amount of outstanding foreign exchange forward contracts was $26 million and $355 million at June 30, 2013 and December 31, 2012, respectively. The associated gains and losses from changes in fair value are reported in “General and administrative expense” and “Investment and other income (expense), net” in the condensed consolidated statements of operations. Pre-tax unrealized and realized net gains and losses were not material for the three and six months ended June 30, 2013. We recognized a pre-tax unrealized net loss of $1 million for the three and six months ended June 30, 2012 and a pre-tax realized net gain of $3 million and $2 million for the three and six months ended June 30, 2012, respectively.

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Other

Activision Blizzard has entered into various transactions and agreements, including cash management services, investor agreement, music royalty agreements, and music distribution agreements, with Vivendi and its subsidiaries and other affiliates. None of these services, transactions and agreements with Vivendi and its affiliates are material, either individually or in the aggregate, to the condensed consolidated financial statements as a whole.

14. Recently issued accounting pronouncements

Indefinite-lived intangible assets impairment

In July 2012, the FASB issued an update to the authoritative guidance related to testing indefinite-lived intangible assets for impairment. This update gives an entity the option to first consider certain qualitative factors to determine whether the existence of events and circumstances indicates that it is more likely than not that the fair value of an indefinite-lived intangible asset is less than its carrying amount as a basis for determining whether it is necessary to perform the quantitative impairment test. This update is effective for the indefinite-lived intangible asset impairment test performed for fiscal years beginning after September 15, 2012. The adoption of this guidance did not have a material impact on our condensed consolidated financial statements.

Balance sheet offsetting disclosures

In December 2011, the FASB issued authoritative guidance on the disclosure of financial instruments and derivative instruments that are either offset or subject to an enforceable master netting arrangement or similar agreement and should be applied retrospectively for all comparative periods presented for annual periods beginning on or after January 1, 2013 and interim periods within those annual periods. The adoption of this guidance did not have a material impact on our condensed consolidated financial statements.

Reclassification of accumulated other comprehensive loss

In February 2013, the FASB issued an accounting standards update requiring new disclosures about reclassifications from accumulated other comprehensive loss to net income. These disclosures may be presented on the face of the statements or in the notes to the consolidated financial statements. This update is effective for fiscal years beginning after December 15, 2012. We adopted this guidance and provided the required disclosures in Note 10 of the Notes to Condensed Consolidated Financial Statements.

Accounting for cumulative translation adjustments

In February 2013, the FASB issued an update to the authoritative guidance related to the release of cumulative translation adjustments into net income when a parent either sells a part or all of its investment in a foreign entity or no longer holds a controlling financial interest in a foreign entity. This update will be effective for fiscal years beginning after December 15, 2013. We are currently evaluating the impact on our condensed consolidated financial statements from the adoption of this guidance.

Presentation of unrecognized tax benefits

In July 2013, the FASB issued an update to the authoritative guidance related to the presentation of an unrecognized tax benefit in the financial statements. The update will require entities to present an unrecognized tax benefit as a reduction of a deferred tax asset for a net operating loss or other tax credit carryforwards when settlement in this manner is available under the tax laws. This update is effective for fiscal years beginning after December 15, 2013. We are currently evaluating the impact on our condensed consolidated financial statements from the adoption of this guidance.

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15. Subsequent events

On July 25, 2013, we entered into a stock purchase agreement (the “Stock Purchase Agreement”) with Vivendi and ASAC II LP (“ASAC”), an exempted limited partnership established under the laws of the Cayman Islands, and acting by its general partner, ASAC II LLC. The Stock Purchase Agreement provides for us to, upon the terms and subject to the conditions thereof, acquire all of the capital stock of Amber Holding Subsidiary Co., a Delaware corporation and wholly-owned subsidiary of Vivendi (“New VH”), which, at the time of purchase, will be the direct owner of approximately 429 million shares of our common stock, for a cash payment of approximately $5.83 billion, or $13.60 per share for the shares of our common stock being acquired by us, before taking into account the benefit to the Company of certain tax attributes of New VH assumed in the transaction (collectively, the “Purchase Transaction”). The Stock Purchase Agreement further provides for ASAC to, upon the terms and subject to the conditions thereof, purchase from Vivendi approximately 172 million shares of our common stock, in conjunction with the Purchase Transaction, for an aggregate cash payment of approximately $2.34 billion, or $13.60 per share (the “Private Sale”), provided that such amounts may be reduced under certain circumstances. Robert A. Kotick, our chief executive officer, and Brian G. Kelly, co-chairman of our board of directors, are affiliates of ASAC II LLC, and will contribute $100 million combined to the Private Sale. The transactions contemplated by the Stock Purchase Agreement are expected to close by the end of September 2013, subject to certain closing conditions.

We plan to fund the Purchase Transaction with a combination of approximately $1.2 billion of cash on hand and $4.75 billion of debt accessed through the capital markets and bank financing. We have obtained a commitment letter for bank financing that, subject to customary conditions, would include a senior secured term loan facility, as well as an incremental $250 million senior secured revolving credit facility for liquidity purposes. In addition, we expect to issue debt that we currently expect to be comprised of secured notes and unsecured notes. If we have not issued some or all of the new secured or unsecured notes by the time of completion of the Purchase Transaction, we would also have, subject to the terms and conditions of the commitment letter, the ability under our commitment letter to draw on bridge loan facilities.

After giving effect to the Purchase Transaction, our new outstanding share count is expected to be reduced by approximately 429 million shares of our stock, which would accordingly increase earnings per common share. The Purchase Transaction will be accounted for as a shares repurchase with the reduction recorded in “Additional Paid In Capital” in the consolidated balance sheet. We expect that following the completion of the Purchase Transaction, our cash on hand will be reduced by approximately $1.2 billion, and our new capital structure is expected to include approximately $4.75 billion of debt and $1.4 billion of net debt, where net debt is calculated by subtracting the debt and fees to be incurred from cash and short-term investments at June 30, 2013.

Concurrently with the signing of the Stock Purchase Agreement, Mr. Kotick and Mr. Kelly each entered into waiver and acknowledgement letters with us which provide, among other things, for the waiver by Mr. Kotick and Mr. Kelly of their rights to any change in control payments or benefits under their employment agreements with us, our 2008 Incentive Plan or any award agreements in respect to awards granted thereunder, and any other benefit plans and arrangements, in connection with or as a consequence of the transactions contemplated by the Stock Purchase Agreement.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Business Overview

Activision Blizzard, Inc. is a worldwide online, personal computer (“PC”), video game console, handheld, and mobile game publisher. The terms “Activision Blizzard,” the “Company,” “we,” “us,” and “our” are used to refer collectively to Activision Blizzard, Inc. and its subsidiaries. Based upon our current organizational structure, we conduct our business through three operating segments as follows:

Activision Publishing, Inc.

Blizzard Entertainment, Inc.

Blizzard Entertainment, Inc. (“Blizzard”) is a leader in the subscription-based massively multi-player online role-playing game (“MMORPG”) category in terms of both subscriber base and revenues generated through its World of Warcraft® franchise, which it develops, hosts and supports. Blizzard also develops, markets and sells role-playing action and strategy PC-based computer games, including games in the multiple-award winning Diablo® and StarCraft® franchises. In addition, Blizzard maintains a proprietary online-game related service, Battle.net®. Blizzard distributes its products and generates revenues worldwide through various means, including: subscriptions; sales of prepaid subscription cards; revenue from value-added services such as realm transfers, faction changes, and other character customizations within World of Warcraft gameplay; retail sales of physical “boxed” products; online download sales of PC products; and licensing of software to third-party or related party companies that distribute World of Warcraft, Diablo III and StarCraft II products.

Activision Blizzard Distribution

Business Highlights

For the three months ended June 30, 2013 and June 30, 2012, Activision Blizzard had net revenues of $1.1 billion. For the three months ended June 30, 2013, Activision Blizzard’s earnings per diluted share were $0.28, as compared to earnings per diluted share of $0.16 for the same period in 2012.

For the six months ended June 30, 2013, Activision Blizzard had net revenues of $2.4 billion, as compared to net revenues of $2.2 billion for the same period in 2012, and earnings per diluted share of $0.68, as compared to earnings per diluted share of $0.50 for the same period in 2012.

For the six months ended June 30, 2013, according to The NPD Group, for U.S. data, Gfk Chart-Track, for European data, and internal estimates, and including sales of toys and accessories:

· Activision Blizzard was the #1 third-party publisher in North America and Europe combined;

· Activision Blizzard had the top-two best-selling games in North America and Europe combined, with Activision Publishing’s Skylanders® Giants™ and Call of Duty®: Black Ops II; and

· In both North America and Europe, Activision Publishing’s Skylanders Giants was the #1 best-selling console and hand-held game overall in dollars.

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During the six months ended June 30, 2013, Activision Publishing released, among other titles, the first and second downloadable map packs for Call of Duty: Black Ops II — Call of Duty: Black Ops II Revolution (“Revolution”) and Call of Duty: Black Ops II Uprising (“Uprising”). On July 2, 2013, Activision released the third downloadable map pack for Call of Duty: Black Ops II, Call of Duty: Black Ops II Vengeance for the Xbox 360.

On March 12, 2013, Blizzard released StarCraft II: Heart of the Swarm®, the first expansion to Blizzard’s real-time strategy PC game StarCraft II: Wings of Liberty®.

Activision Blizzard Upcoming Product Releases

We have announced and expect to release the following titles and games, among others:

· Blizzard’s Hearthstone™: Heroes of Warcraft™, a new cross-platform free-to-play game for the PC and mobile devices;

· Blizzard’s Diablo III for the PS3 and Xbox 360 on September 3, 2013;

· The newest installment in Activision’s popular Skylanders franchise, Skylanders SWAP Force™ on October 13, 2013; and

· Activision’s new Call of Duty game, Call of Duty: Ghosts, on November 5, 2013.

Management’s Overview of Business Trends

We provide our products through both retail channels and digital online delivery methods. Many of our video games that are available through retailers as physical “boxed” software products, such as DVDs, are also available by direct digital download over the Internet (both from websites that we own and from others owned by third parties). In addition, we offer players downloadable content as add-ons to our products (e.g., new multi-player map packs), generally for a one-time fee. We also offer subscription-based services for World of Warcraft, which are digitally delivered and hosted by Blizzard’s proprietary online-game related service, Battle.net. Digital revenues continue to be an important part of our business, and we continue to focus on and develop products that can be delivered via digital online channels.

Net revenues from digital online channels represented 37% of our total consolidated net revenues for the three months ended June 30, 2013, as compared to 32% for the same period in 2012. On a non-GAAP basis, which excludes the impact of the change in deferred net revenues, net revenues from digital online channels represented 63% of our total consolidated net revenues for the three months ended June 30, 2013, as compared to 47% for the same period in 2012.

Net revenues from digital online channels represented 32% of our total consolidated net revenues for the six months ended June 30, 2013, as compared to 29% for the same period in 2012. On a non-GAAP basis, net revenues from digital online channels represented 57% of our total consolidated net revenues for the six months ended June 30, 2013, as compared to 49% for the same period in 2012.

The increase in our relative mix of retail and digital online channel revenues for the three and six month periods ended June 30, 2013 was primarily due to stronger digital online revenues from Call of Duty: Black Ops II, Revolution and Uprising, as compared to Call of Duty: Modern Warfare® 3, Call of Duty: Modern Warfare 3 Content Collection #1 and Call of Duty: Modern Warfare 3 Content Collection #2, and the release of StarCraft II: Heart of the Swarm in March 2013. Partially offsetting the increase was the release of Diablo III in May 2012 without a comparable release in the current period. The increase in the mix of GAAP digital online revenues for the three and six months ended June 30, 2013 was less significant due to revenues deferred from the strong performance of the Call of Duty: Black Ops II digital content.

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Please refer to the reconciliation between GAAP and non-GAAP financial measures later in this document for further discussions of retail and digital online channels.

Conditions in the retail channels of the video games industry continued to be challenging during the first six months of 2013. In the U.S. and Europe, retail sales of video games experienced a combined decrease of approximately 13% for the first six months of 2013, as compared to the same period in 2012, according to The NPD Group and Gfk Chart-Track. The overall decline for the six months ended June 30, 2013 is primarily attributable to the continued decline in retail sales of video games for standard-definition, handheld and PC platforms, which were down by approximately 30% year-over-year, while retail sales of video games for high-definition platforms were relatively flat for the same period. However, according to our internal estimates, overall sales of video games (including digital sales) for the first six months of 2013 were only slightly lower, down 1% as compared to the same period in 2012. Our strong performance from digital online revenues resulted in a positive impact to our results during the six months ended June 30, 2013.

Despite the challenges in the retail channels, sales of the industry’s top five titles (including toys and accessories) continue to represent a large portion of total retail sales in the industry. While retail sales decreased during the six months ended June 30, 2013, the top five titles grew 7% for the six months ended June 30, 2013, as compared to same period in 2012, according to The NPD Group, Gfk Chart-Track and the Company’s internal estimates. The Company’s results have been favorably impacted by this trend because of our greater focus on premier top titles and a more focused overall slate of titles.

Including toys and accessories, Skylanders Giants and Call of Duty: Black Ops II were the top two video game titles for the first half of 2013 in the U.S and Europe combined, according to The NPD Group, Gfk Chart-Track and the Company’s internal estimates. We will continue to invest in our established franchises, as well as new titles that we think have the potential to drive our growth over the long-term. However, we expect the competitive landscape to be challenging for the remainder of 2013. Call of Duty: Ghosts will face a more crowded slate of titles from the same genre in its quarter of launch later this year than it has in the past and our Skylanders franchise will face more direct and substantial competition than it has before. The competitive landscape will likely require us to further increase our sales and marketing investment in our key franchises and could impact revenues.

In 2013, Sony and Microsoft announced that later this year they will launch their next-generation consoles, the PS4 and Xbox One, respectively. While new console platforms provide opportunities for our future releases, the uncertainty around the adoption rate of new consoles and the short-term impact on consumer purchases of our products can be disruptive to our business in the short term. We are continually monitoring console hardware sales, as well as the development of next-generation consoles. We are managing our product delivery for each current and future platform in a manner we believe to be most effective to maximize our revenue opportunities and achieve the desired return on our investments in product development. As noted above, we are investing in, developing, and planning to release games for each of these next-generation console systems.

Pending Transactions

As discussed in more detail below under “Other Liquidity and Capital Resources,” on July 25, 2013, we entered into a stock purchase agreement (the “Stock Purchase Agreement”) with Vivendi and ASAC II LP (“ASAC”), an exempted limited partnership established under the laws of the Cayman Islands, and acting by its general partner, ASAC II LLC. Under the Stock Purchase Agreement, we have agreed, upon the terms and subject to the conditions thereof, to acquire, via the acquisition of a wholly-owned subsidiary of Vivendi (“New VH”), approximately 429 million shares of our common stock, in exchange for approximately $5.83 billion in cash, before taking into account the benefit to the Company of certain tax attributes of New VH assumed in the transaction (collectively, the “Purchase Transaction”). The Stock Purchase Agreement further provides for ASAC, an investment vehicle led by Robert A. Kotick, our chief executive officer, and Brian G. Kelly, co-chairman of our board of directors, to, upon the terms and subject to the conditions thereof, purchase from Vivendi approximately 172 million shares of our common stock for approximately $2.34 billion in cash (the “Private Sale”), provided that such amounts may be reduced under certain circumstances. We plan to fund the Purchase Transaction with a combination of approximately $1.2 billion cash on hand and $4.75 billion of debt accessed through the capital markets and bank financings. The Purchase Transaction and Private Sales (the “Transactions”) contemplated by the Stock Purchase Agreement are expected to close by the end of September 2013, subject to certain closing conditions.

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Consolidated Statements of Operations Data

The following table sets forth consolidated statements of operations data for the periods indicated in dollars and as a percentage of total net revenues (amounts in millions):

	Three months ended June 30,								Six months ended June 30,
	2013				2012				2013				2012

Net revenues:
Product sales	$	727	69	%	$	798	74	%	$	1,717	72	%	$	1,672	74	%
Subscription, licensing, and other revenues	323		31		277		26		658		28		575		26
Total net revenues	1,050		100		1,075		100		2,375		100		2,247		100

Costs and expenses:
Cost of sales — product costs	179		17		229		21		440		19		486		22
Cost of sales — online subscriptions	54		5		71		7		111		5		140		6
Cost of sales — software royalties and amortization	38		4		57		5		99		4		88		4
Cost of sales — intellectual property licenses	14		1		20		2		52		2		27		1
Product development	123		12		145		13		247		10		259		11
Sales and marketing	116		11		136		13		223		9		216		10
General and administrative	96		9		190		18		186		8