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Playing games with broadband

Broadband will mean big changes for the video game industry, says EA President John Riccitiello, who argues that games may soon become the killer app driving DSL growth.

    If you have never played "Coco Bongo," "EverQuest," "Onimusha" or "The Sims," you may have trouble fathoming the allure of video and computer games for those who play them.

    But the fascination--some call it addiction--is no mystery to the businesses that make these games and the devices on which they are played. Companies such as Electronic Arts, Microsoft, Nintendo, Sega, and Sony--among many others--have parlayed the consumer passion for computer and video games into a $9.4 billion industry in the United States alone.

    The industry will soon get an added boost as large numbers of user communities adopt broadband. Broadband makes for a much more compelling online experience and facilitates the new pay-to-play and subscription revenue models. Players are asked to pay roughly $15 to $20 a month to participate in online games such as "EverQuest" and "Ultima Online" and in new games like "The Sims Online" that use Internet tools like instant messaging and e-mails as critical game components.

    To get a handle on what broadband will mean for the game industry--and vice versa--Christian Zabbal, an associate principal in McKinsey's Montreal office, interviewed John Riccitiello, president and chief operating officer of Electronic Arts, the $1.7 billion game publisher in Redwood City, Calif.

    Q: What is the significance of broadband for the game industry? What will really change?
    A: People will spend an increasing amount of time and money on interactive electronic entertainment. Right now, Americans spend up to 60 hours a week on electronic entertainment of one sort or another. For the most part, they listen to music, they watch TV, they play games, they surf the Net. And since I believe that interactive entertainment is better than passive entertainment, I believe that the share of time spent on interactive entertainment will grow tremendously. Broadband households are already spending 20 to 25 hours a week online and playing games. This is starting to eat significantly into the market share of television and other entertainment media. If money flows to what people are doing, I believe that gaming will rise from 10 percent to 30 percent of a household's electronic-entertainment time and therefore spending.

    Since EA is the leading player in interactive entertainment, and since we have the technology, the content, and the studio artists, and since we're not wed to any particular hardware platform--unlike the other big companies in the space like Sony, Nintendo, and Microsoft--we're in a unique, very exciting situation. Our industry is expected to double if current consoles and online businesses achieve their projections. Adding broadband will be like putting on the afterburners. In the short term, however, broadband is less important to us; the installed base of potential users is too small.

    Just how small is the installed base?
    Most often, when people talk of broadband users, they talk about the pipe and the size of the pipe. For us, having a broad pipe is just the beginning. For a game to take advantage of broadband--for truly interactive entertainment--you need much more: a proper display device, a mouse-keyboard combination, and a processor that's powerful enough to manipulate all that data. So by installed base, I mean users with broadband and the associated hardware. And by that definition, there are not too many people connected today.

    "We're not going to be the ones deploying the infrastructure--but we will be the icing on the cake for anybody who will do it."

    I am very disappointed in the speed of the rollout. It may have been a case of believing that all you had to do was put up the physical infrastructure from coast to coast and people would buy into broadband. Instead, many Digital Subscriber Line providers are now bankrupt. The regular Bell operating companies are basically maintaining a stranglehold on households and making it difficult for other DSL (digital subscriber line) operators to carve out a high-scale business. The cable operators are all trying to figure out a business model that gets a box into a household, and they are trying to keep their costs low--especially the cost of building the box-in hopes of getting a reasonable payout on a very healthy cable infrastructure.

    Some of them are talking about a box costing below $100. You can play blackjack online with a $100 box, but you're not going to play anything sophisticated such as NASCAR Racing or football games. It will take the next generation of consoles, four years or so away, to really take advantage of the broadband pipe. Yes, I am frustrated by how slow the rollout has been compared with expectations.

    What would have to change for the rollout to accelerate?
    At some point soon, some combination of EA with a satellite operator, or EA with a cable operator, or even a cable operator with two or three content players is going to figure out an economic model that will permit us to make money from 40 million people with $300 or $400 boxes on top of their TVs and some sort of a cheap wire in the house or a radio connection to the PC. That household will be wired in a way that is vastly more attractive than any cable or satellite play alone could be--and I believe that the center of that home network is going to be interactive entertainment.

    Most infrastructure companies can figure out the investment levels and the infrastructure required to bring broadband to the home, and at some point these companies will start wondering what the killer application is. So we keep tabs on which infrastructure company is doing what, and we work with the infrastructure companies to define how we could use our content and capabilities, and that's how we prepare for the coming explosion. No one has all the pieces, though. Microsoft and Sony are pushing most aggressively to get into the living room, but they do not have the broadband connection. The cable companies have the connections but little content to use it with. The sweet spot is not here yet.

    Until it is, we're in multiple partnerships with technology companies, including IBM and America Online. Realistically, EA is a $1.7 billion content company in the middle of some very large players. We're not going to be the ones deploying the infrastructure--but we will be the icing on the cake for anybody who will do it.

    Why will interactive entertainment be at the center of this development?
    Let me be provocative for a moment and explain why I think it's content like ours that will help drive the broadband rollout. Your television works pretty well today: There are a lot of channels, you can get movies on demand, and people are able to choose channels perfectly well. So how can you justify the investment in two-way cable or two-way DSL? It's hard to believe that more of the same--more channels and more pay-per-view--will make the experience so much better that consumers will be willing to pay substantially more for them.

    "The minute I see a business plan which can justify a $300 box in people's homes or a Pentium 4 in every TV, EA will be there."

    I think that what does pass this test is interactive entertainment. It's the sweet spot that makes the whole thing profitable enough to move quickly. We will be a key part of any true broadband solution rollout that hits the mainstream. The minute I see a business plan which can justify a $300 box in people's homes or a Pentium 4 in every TV, EA will be there. But I don't see this happening in the next 12 months.

    What are the implications for the type of content you're developing?
    I could put most of our games on a broadband platform in households, with very little engineering effort. Take a few chunks of code out, tweak the protocols a little, and we're very close to being a broadband company. This is why I know that broadband is going to mean big numbers--but they are not pouring in yet.

    Because we haven't seen dramatic growth in the number of two-way broadband households equipped with adequate computer hardware, we've focused on making the narrowband experience better. Take "Ultima Online," for example. In that game, all that goes back and forth on the pipe is positioning information--a dot on a map the size of L.A. County stored on central servers. Everything else is stored on your hard drive. "The Sims Online" runs along the same lines. They all look like broadband games, but we're cheating by using the hard drive--one example of how we circumvent the pipes problem.

    We're actually the world's largest distributor of compact discs and DVDs. We have a great delivery system--from India to Eastern Europe, from South Korea to New Zealand, and from North America to Western Europe and to parts of South America. We can put 600MB of graphics and sound on a compact disc, 50 gigabytes of code on a server someplace, and just use the pipes to transfer snippets of information between the two.

    How will your business change once broadband is deployed widely?
    Once broadband is deployed, we get to change the distribution system and keep more of the value with EA and to deliver more of our content more cheaply. In that sense, it's a great opportunity for us. On the content side, we've got 2,200 people in our studios working on technology that allows us to do really striking things: graphics of the quality of Pixar Animation Studios, which we can and will deploy once there is a large enough base. We have plans for games which will cause people to ask, "Wow! How did they do this?" The technology for all of this is ready--you could install it in your home in two hours--but we're waiting for it to hit the mainstream.

    What do you worry about?
    I worry about two things, mostly. The first is that I know broadband will reorder the value chain as well as enlarge it tremendously. When that happens, the margins will get redistributed. I worry about staying in the best possible position in that environment--staying in the sweet spot and not getting pushed by one of the large companies into some less profitable role. The other worry concerns communication.

    "The last Internet wave was a little like a gold rush, and it made it very difficult to conduct even sane business models."

    The last Internet wave was a little like a gold rush, and it made it very difficult to conduct even sane business models. The broadband explosion will be another gold rush, and it will make it equally difficult to communicate sane strategies. So I worry not only about our broadband strategy but about how to communicate it to our investors and our partners in a way that makes sense. Right now this is relatively easy, but I worry about what will happen as the broadband wave rolls in.

    For more insight, go to the McKinsey Quarterly Web site.

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