EA invests big in the future

The game giant's recent licensing deals may be paying off, even as it fights off tough competition.

Consider it validation for a spending spree.

Last week, Electronic Arts announced that in just seven days it had sold 1.7 million copies of the new, $50 edition of its "Madden" video football game. It was the best first-week of sales in the 16 years EA has sold the hit game, which is named after John Madden, the popular Monday Night Football announcer and former Oakland Raiders coach.

Dial back to last December. EA stunned the gaming industry when it paid a reported $400 million to the National Football League for exclusive rights to include the NFL players, sights and sounds that enliven the "Madden" games. The deal essentially means rivals such as Microsoft, Midway, Sony and Take-Two Interactive Software are shut out of NFL football.

A month later, EA went on to sign a similar, 15-year exclusive contract with ESPN that was worth a reported $800 million. For sports fans keeping score, that's $1.2 billion in two months to lock up rights with two of the best-known names in sports.

"I think Electronic Arts are very shrewd in their licensing, particularly for sports titles," said Simon Carless, editor of Game Developer magazine, "and their recent deals have only reinforced their position."

If first-week sales of this year's "Madden" game are any indication, it may have been money well-spent: EA has bolstered one of its most popular titles for years to come while freezing out the competition. The game software giant's aggressive moves could even change the way video games are made, forcing competitors to drop marginal titles and focus their resources and marketing dollars on a handful of hits.

"The interesting thing about (EA) is that they trimmed their product line and focused on their core big franchises, and they focused on making them huge in sales," said David Cole, an analyst and president of DFC Intelligence, a research company that focuses on games and other interactive entertainment. "I think a lot of other companies are saying, 'Wow, look at what they've done,' and are going to try to do more of that instead of publishing more across the board."

The stakes for EA and the entire game industry will be huge in the coming months. Microsoft, Sony and Nintendo all intend to deliver new game consoles over the next year, forcing game makers to spend big to prepare their titles for the new platforms.

EA spent $633 million on research and development in fiscal 2005, which ended June 30. That's 20.2 percent of its total revenue, 24.1 percent more than it spent the year before on R&D, and 57.8 percent more than it spent two years ago. In the current fiscal year, some analysts estimate the company's R&D spending could go as high as $725 million.

That EA was still willing to spend big to lock up those deals in the middle of that heavy R&D buildup shows just how important the Redwood City, Calif., company and its competitors consider them.

Seizing an opportunity
Indeed, before signing the exclusive deal with the NFL, EA had begun to see its football market share eaten away by Take-Two's "NFL 2K." So when the NFL decided to look for an exclusive partner, EA pounced.

"You could see the writing on the wall," Cole said. "(The deal) was kind of a defensive position. Obviously, they would have liked to not have to pay that money to the NFL, but they were able to lock it in. They don't have to worry about the competition for the remainder of that deal." He estimates EA can sell up to 6 million copies of "Madden" per year, and would make up what it is spending on the NFL license by avoiding having to cut the game's price because of competition.

Still, some financial analysts, such as Michael Pachter of Wedbush Morgan Securities, believe EA may have been overconfident about the selling power of the NFL titles. While some are boosting their recommendations of EA's stock, Pachter recently downgraded the stock from "buy" to "hold."

"Over the last two quarters, the company encountered greater competition than it has in the last five years," Pachter wrote in a July 27 memo on EA, "and we believe that management was overconfident in the company's ability to market its way out of (its current) problem."

Despite EA's massive size advantage--its fiscal 2005 revenue of $3.13 billion was more than double those of second-place Activision's $1.41 billion--EA has recently struggled. For the first quarter of the company's fiscal 2006, which ended June 30, it lost $58 million on revenue of $365 million, in part because consumers may be holding off on purchases until the next-generation consoles are ready, analysts suggest.

But to some observers, EA is wise to accept short-term costs.

"As we move into the next-generation (consoles), being able to spend a lot of money on R&D is clearly very important," said Carless of Game Developer magazine. He thinks EA's decision to put hundreds of million of dollars into its NFL license and to secure the future of the "Madden" franchise was a good, if expensive, idea.

"If I was going to bet on a sports franchise, the NFL would be somewhere near the top of my list."
--Simon Carless, editor, Game Developer magazine

"I think that any other company, in EA's position, would be trying to push home any perceived advantage," Carless said. "If I was going to bet on a sports franchise, the NFL would be somewhere near the top of my list."

That's not to say EA is giving up on its nonsports titles. It has also been locking up exclusive licenses for movie games based on Hollywood hits such as "Harry Potter," "Lord of the Rings," "James Bond" and, most recently, "The Godfather."

However, EA has delayed releasing of "The Godfather," and analysts say that also led to lower-than-expected first-quarter revenue.

But there is little doubt that EA's bread and butter is sports. And that no title is more important than "Madden."

Alternatives for the competition
"Madden" is a "business we've been successful with for over 15 years," said Jeff Karp, group vice president for EA marketing. "So I think we have a pretty good barometer of the upside. We feel pretty strongly that these are great investments for the company."

Still, while EA remains, as Cole calls it, the 800-pound gorilla of the game industry, rivals who lost the right to publish NFL-licensed games say they can still more than hold their own.

"At this time, (Microsoft Game Studio) is focusing on developing creative, epic-scale, platform-driving games for both Xbox and Windows," said Molly O'Donnell, Microsoft's senior manager for Xbox global public relations.

Similarly, Midway, which previously published "Blitz Pro," said it made its own decision to distance itself from the NFL.

Take-Two also said it wouldn't be hurt by the loss of its NFL game. Indeed, even as EA locked up exclusive rights to the NFL, Take Two struck a multiyear deal with Major League Baseball for a reported $200 million to $250 million that excludes EA for the foreseeable future.

To Tim DaRosa, Midway's media relations manager, deals like that prove that EA's competitors, while impressed with the game giant's moves, aren't likely to be cowed.

"If I'm Take-Two, am I disappointed (at losing the NFL)? Yeah," he said. "But they did the smart thing. They went out and got the baseball rights."

Of course, Cole thinks that companies like Midway and Take-Two, regardless of what they say publicly, would love to see EA brought back to earth. But he thinks that's unlikely given the amount of money EA plans to spend on R&D and forthcoming games like "Spore" from Will Wright, the mastermind behind "The Sims," the best-selling PC game of all time.

"I think they're always rooting for (EA to fall)," Cole said. "EA is kind of seen as the big bad bully in the neighborhood. It's David versus Goliath."

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