Since the announcement of a proposed merger between Microsoft and Activision Blizzard, Inc. (“Activision”) in February 2022, enforcement agencies worldwide have adopted a spectrum of positions in response. The EU Commission and the South African Competition Tribunal both approved the merger, while the United Kingdom’s Competition and Markets Authority initially blocked the deal. In the United States, the Federal Trade Commission (“FTC”) vigorously opposed the merger and sought an injunction to halt it. That effort failed on July 10, 2023, when Judge Jacqueline Scott Corley of the Northern District of California rejected the FTC’s motion for a preliminary injunction to stop the merger. Coming just weeks after Judge Corley granted in part and denied in part a motion to dismiss a private plaintiff’s class action brought by video game players, the FTC’s failed injunction appears to have moved Microsoft and Activision closer to completing their proposed deal this fall.

Background

The global antitrust community has fixed its eyes on the proposed merger between Microsoft and Activision at least in part because of its size: the $68.7 billion merger would mark the largest ever between U.S. technology companies. In 2022 alone, Microsoft had $198 billion in revenue, and Activision had $7.5 billion.

Microsoft’s gaming division is vertically aligned. It both makes the devices—such as Xbox and personal computers (“PCs”) that operate video games—and creates the video games played on these devices, such as the Halo and Elder Scrolls franchises. Activision develops video games for both consoles and non-consoles, such as PCs and mobile devices. Activision created some of the world’s most popular games, including the mobile game Candy Crush, as well as the Warcraft, Diablo, Overwatch, and Call of Duty franchises.

In particular, the Call of Duty franchise has become a focus of enforcers’ antitrust concerns. Call of Duty is wildly popular; to provide one example, the game Call of Duty: Modern Warfare II, released in 2022, generated $1 billion in sales in just the ten days following its release (As a point of reference, Disney’s Avengers: Endgame was the fastest earning film upon its release, producing $1 billion in sales in five days). Call of Duty titles have comprised ten of the top fifteen console games sold from 2010 through 2019, and the franchise has purportedly had $27 billion in revenues from its launch in 2003 through 2020.

The Call of Duty franchise is currently available across console and non-console gaming platforms. The franchise’s newest edition, Call of Duty: Modern Warfare II, can be played on two of the three major consoles and on PCs. One franchise game is available on mobile devices. Some Call of Duty games also permit real-time gameplay between consoles and across PCs and consoles. This means that someone playing Call of Duty on Microsoft’s Xbox could simultaneously play with another gamer on a PC, or on Sony’s PlayStation. The franchise typically releases a new game every year.

Denial of the FTC’s Injunction Bid

The FTC alleged that the proposed merger between Microsoft and Activision would violate Section 7 of the Clayton Act, 15 U.S.C. § 18, and Section 5 of the FTC Act, 15 U.S.C. § 45. These claims required the FTC to show that the merger “may substantially . . . lessen competition, or . . . tend to create a monopoly” in the relevant market, which is determined by product and geography.

The FTC Act prohibits “unfair methods of competition in or affecting commerce.” The FTC advanced a vertical merger theory, which requires the court to apply a burden-shifting framework between the parties. First, the FTC must make a “fact-specific showing that the proposed merger is likely to be anticompetitive.” If a prima facie case is shown, Microsoft must show that the FTC’s claim “inaccurately predicts the relevant transaction’s probable effect on future competition,” or else Microsoft must “sufficiently discredit [the FTC’s] evidence.” Because the court evaluated this theory on a motion for a preliminary injunction, Judge Corley did not fully evaluate the merits of the claim and did not conduct a full burden-shifting analysis. Rather, the court analyzed whether the FTC was likely to succeed on the merits of its claims.

In supporting these claims, the FTC argued that if Microsoft gains control of Activision, the newly merged firm would foreclose its competitors’ ability to fairly compete in the console and non-console markets by “withhold[ing] or degrad[ing] Activision’s content,” particularly Call of Duty. The FTC further alleged that this is not a remote possibility because, in its view, Microsoft would be incentivized to foreclose its content, resulting in decreased competition in the market.

In evaluating these claims, Judge Corley held a five-day preliminary injunction hearing. At the hearing, and in its papers, the FTC heavily relied on its expert, who claimed that it would be more profitable for Microsoft to deny access to Call of Duty to Microsoft’s competitors than to keep the game available across the console and non-console markets, and that Microsoft would have larger shares of the relevant markets if it adopted such a strategy.

The court rejected the FTC’s arguments, and denied the FTC’s motion for a preliminary injunction. Judge Corley found that the FTC had not shown a “likelihood [that] it will prevail on its claim this particular vertical merger in this specific industry may substantially lessen competition.” Judge Corleyfound the FTC’s foreclosure theory and evidence “unpersuasive” and that the “evidence points to more [as opposed to less] consumer access to Call of Duty and other Activision content.”

The court highlighted Microsoft’s public commitments and agreements to keep the franchise available to Microsoft’s console and non-console competitors, including Microsoft’s commitment to expand the franchise’s access to other competitors, such as Nintendo. Further, for the first time ever, in response to the FTC’s complaint, Microsoft entered into agreements to provide access to Call of Duty in the cloud-gaming market, providing direct access to Microsoft’s cloud-gaming competitors. The district court also noted that in Microsoft’s previous acquisitions, it did not foreclose competitors from having access to its newly acquired games, such as the popular Minecraft.

The court specifically rejected the FTC’s expert’s opinion that Microsoft’s foreclosure of Call of Duty to its competitors would be more profitable than continuing access. For example, the expert calculated the amount of non-Microsoft customers that would purchase Microsoft’s console and Call of Duty titles if Microsoft made access to the franchise exclusive. The expert called this figure a “conversion rate.” The expert assumed a twenty percent conversion rate for his economic model. However, Judge Corley found that this rate was “not based on evidence” because there was no rationale for this number—it was just an “assumed input.” The court rejected this conversion rate and found it especially problematic because, under the expert’s model, a conversion rate below seventeen percent would make, in part, Microsoft’s foreclosure of Call of Duty unprofitable. The court also found unjustifiable economic assumptions in the expert’s analysis of Microsoft’s share following the merger. Judge Corley found that the expert’s market share model “ignores the presence of non-exclusive games in influencing console choice,” even though the expert acknowledged that non-exclusive games do influence console choice.The court found that the expert’s opinion was also flawed because it used only domestic market share data as compared to domestic and international data. Finally, Judge Corley emphasized that these flaws were exposed by Microsoft’s expert, but were ultimately unrefuted by both the FTC and during the FTC’s expert’s re-direct.

For these reasons, Judge Corley found that the merged Microsoft-Activision firm would not foreclose the Call of Duty franchise to its competitors. Indeed, in addition to highlighting Microsoft’s commitment to keeping Call of Duty available to non-Microsoft users, the court noted that part of Call of Duty’s cultural and financial success resulted from consumers’ ability to play the game across multiple consoles and the non-console market. The court found that the proposed merged firm would suffer “irreparable reputational harm if it forecloses Call of Duty” to its competitors.

The FTC appealed this the decision. On July 13, the Ninth Circuit summarily affirmed Judge Corley’s decision to deny the FTC’s motion for a preliminary injunction.

Despite the Ninth Circuit’s decision, the FTC still has several avenues to attempt to block the merger. It can pursue the merits of the case in the Ninth Circuit—a denial of a preliminary injunction does not preclude the FTC from pursuing its challenge. The FTC can also reinstate its paused administrative challenge. (For the time being, the FTC moved to pause the administrative challenge, citing the failed motion for a preliminary injunction). Whether the FTC will continue its challenge remains an open question.

The Class Action Lawsuit

A parallel class action suit mirroring the FTC’s claims is also before Judge Corley. Plaintiffs are recreational video game players. There, plaintiffs alleged the proposed merger would violate Section 7 of the Clayton Act through either a horizontal or vertical merger. The gamers argued that the horizontal merger would diminish competition in the “Triple-A” video game market, which are games with the highest capital investments and highest expectations of revenue, are much more heavily marketed, and are targeted to the general gaming public, as compared to a niche gaming market. Plaintiffs alleged that six video game developers make Triple-A games, that the merger would consolidate this market to five developers, and that the merged Microsoft/Activision firm would control the largest share of this market (about thirty percent). As to the vertical merger claim, like the FTC, plaintiffs argued that a newly merged Microsoft/Activision firm would foreclose its competitors’ ability to fairly compete in the console and non-console markets by withholding and downgrading Activision’s content, especially the Call of Duty franchise, and by creating barriers of entry to novel game developers.

Judge Corley dismissed plaintiffs’ horizontal merger claim, but allowed the vertical merger claim to survive a motion to dismiss. The court, in a nine-page opinion, rejected the horizontal merger claim because plaintiffs did not plausibly allege that the proposed Microsoft/Activision firm would constitute at least thirty percent of the Triple-A market share. For example, plaintiffs’ Triple-A market share figure includes revenues for the popular game Fortnight, but omits the developers of Fortnight from the alleged product market.

At the same time, Judge Corley held that plaintiffs adequately pleaded that the vertical merger may lessen competition through foreclosing the merged firm’s content, especially the Call of Duty franchise. The court emphasized the early posture of the case, noting that at the pleading stage all inferences are to be drawn in favor of plaintiffs. (On the other hand, as discussed above, the preliminary injunction sought by the FTC required the court to consider evidence in its analysis of the agency’s likelihood of success.) As a result, the court found that plaintiffs plausibly alleged the following: that Microsoft has a financial incentive to foreclose access of Call of Duty to its competitors; that Microsoft withheld access to content from its competitors in the past following a merger; and that Microsoft has not abided by its promises to antitrust regulators in the past regarding its competitive practices. Microsoft answered the complaint on August 22.

Around the World

Assessments of the merger continue to evolve. Soon after Judge Corley’s denial of the FTC’s preliminary injunction and decision on defendants’ motion to dismiss the gamers’ class action suit, Microsoft and Activision agreed to extend the deal’s deadline to October 18, 2023. On August 8, New Zealand’s Commerce Commission approved the merger. And although the UK’s Competition and Markets Authority (“CMA”) rejected the deal in April, it may be reconsidering its decision to block the merger. On August 22, Microsoft submitted a revised proposal to CMA, whereby Microsoft would agree to license the rights to several of its games, including Call of Duty.

We will continue to monitor this lawsuit and other developments in Microsoft’s acquisition of Activision.