Software Comes Back in Play as Game Industry Seeks New Winners
Once a garish sideshow for video game nerds, the Electronic Entertainment Expo has turned into an annual party for one of the few technology sectors yet to flash “Game Over.”
Attendance and booth space at E3, which begins Wednesday at the Los Angeles Convention Center, are expected to rise this year, a sign that mainstream interest in games is growing as Wall Street and Hollywood search for solid investments.
But as the financial and entertainment elite converge on video games as the answer to their woes, the game industry is becoming more like Hollywood with ballooning budgets, a reliance on sequels to fuel sales and a focus on blockbuster titles at the expense of fledgling franchises.
The result: Less hype about new state-of-the-art hardware than last year and more emphasis on finding the “killer app,” a game so irresistible that it can launch a franchise such as “Tomb Raider’s” Lara Croft.
“This year’s focus is shifting back to software--who’s going to have the great product for the holiday,” said Shawn C. Milne, a game industry analyst with Soundview Technology Group in San Francisco.
Last year, sales of new consoles drove industry growth, according to NPD Group Inc. It credited the launch of Microsoft Corp.’s Xbox, Nintendo Co.’s GameCube and GameBoy Advance and the strong momentum of Sony Corp.’s PlayStation 2 (introduced in 2000) for much of the industry’s 43% growth last year to $9.4 billion--$3 billion of which came from hardware sales. Hollywood box office receipts, by comparison, were $8.4 billion last year.
Although console sales probably will be brisk this year, the star of the show will be software.
“Last year’s E3 was about who was going to win the console war,” said John Riccitiello, president of Electronic Arts Inc. in Redwood City, Calif. “That’s done. It’s unequivocal. Sony won, and it doesn’t seem like the tide is going to turn. What’s going to define the remainder of this generation is content. It’s software.”
That’s good for companies such as EA, Activision Inc., THQ Inc., Sega Corp. and Take-Two Interactive Software Inc., which put out last year’s sleeper hit “Grand Theft Auto 3.” Shares of Activision have jumped 27% this year; Take-Two’s shares have risen 58%. EA’s stock has gained 6% and THQ’s is up 5%.
“This is the first of the harvest years,” said Activision Chief Executive Robert Kotick, who forecast that software sales will grow 12% to 17% this year.
With prices the same at $199.99 for the PS2 and Xbox, analysts say games--especially exclusive titles that can be played only on a single platform--will be more critical for Microsoft and Sony. “There’s a lot of jockeying for exclusive titles,” said Simon Price, president of LucasArts, a subsidiary of Lucasfilm Ltd. in San Rafael.
That means software companies now can bargain for discounts on royalties paid to console companies, which can be as much as $7 per disc sold. They also can reap millions of dollars for each exclusive title to help pay for marketing or development costs. For game companies, the trade-off is potentially fewer sales but lower risk.
Minimizing risk has been a noticeable trend. As development budgets grow, publishers increasingly are milking existing franchises by churning out sequels and snapping up licenses to piggyback off well-known brands, such as “Lord of the Rings,” “Harry Potter,” “The Matrix” and “Peter Pan.” That’s caused some to question whether creativity will take a back seat to economic imperatives.
“I would say innovation is the biggest challenge we face in the industry today,” said Doug Lowenstein, president of the Interactive Digital Software Assn. in Washington, a video game industry trade group.
Meanwhile, competition among hardware companies remains brutal. Sony and Microsoft last week declared a price war, dropping the sticker price of their consoles by one-third to $199.99. Nintendo is firing back by dropping GameCube prices 25% to $149.99 Tuesday.
They’ve also waged a war over the online games market. Nintendo last week announced it would sell a $35 modem for its GameCube this fall so gamers can play against each other over the Internet. Nintendo also said it will not charge game publishers any royalties for their online revenues.
Sony is pursuing a similar model. The Japanese company is releasing a $40 modem in August and offering cash incentives to developers who build online features into their PlayStation 2 games. Sony, however, plans to charge royalties on online revenues. Sony scored a coup last week when it landed a deal with Electronic Arts to build online features for future “Madden Football” games exclusively for PlayStation 2.
Microsoft’s plans are the most elaborate. The Redmond, Wash., company is building a complete online environment run by Microsoft’s servers. Dubbed “Xbox Live,” the program is designed to make it simple for gamers to log on, find opponents, compare high scores, compete in live tournaments and even download extra characters or game levels.
Although PlayStation and GameCube owners must buy modems to connect, Xboxes have built-in high-speed Ethernet adaptors. Microsoft also has landed a deal with LucasArts to put the highly anticipated online game “Star Wars Galaxies” on Xbox.
Although intriguing from a technology standpoint, online games are far from becoming a significant part of any company’s revenue, most industry watchers say.
“Online is a joke,” said Michael Pachter, director of research for Wedbush Morgan Securities in Los Angeles.
Even publishers aren’t relying on online revenue from consoles.
“It’s going to take a while,” said THQ CEO Brian Farrell. “The real here and now are the core single-player products.”
That’s enough for investors who are streaming to E3, where a minister in the British Department of Trade and Industry is expected to announce a new venture capital fund with about $45 million devoted to funding video games.
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Blockbusters
Here are the top-selling video games in 2001:
Brand (publisher) Sales, in millions
Tony Hawk (Activision) $216.9
Mario (Nintendo) 206.8
Pokemon (Nintendo) 197.3
Madden NFL (Electronic Arts) 196.9
Grand Theft Auto (Take-Two) 106.1
Source: Wedbush Morgan Securities
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