A Battle Breaks Out Over Sports Rights For Videogames

(From The Wall Street Journal -- By Nick Wingfield)

TAKE-TWO INTERACTIVE SOFTWARE INCORPORATED is known for the violent street fights in its GRAND THEFT AUTO videogames. Last year, it set off a fight in the real world.

TAKE-TWO cut a deal to market an underperforming series of sports videogames named after ESPN, the sports channel. Then it jolted the game world by setting a price of just $20, less than half the going rate.
It was a direct challenge to ELECTRONIC ARTS INC. (EA), the biggest videogame maker, for whom sports is a crucial franchise.

EA hit back hard. In December it negotiated an exclusive right to make videogames that use NATIONAL FOOTBALL LEAGUE teams and players, knocking TAKE-TWO and everyone else out of that game for five years.
A month later, after the right to use the ESPN logo and sportscasters in videogames went on the block, EA signed a 15-year exclusive license for those, too.

EA agreed to unprecedented prices in nailing down these deals -- more than $400 million for the NFL rights and $800 million for ESPN's the following month. Since then, game publishers have committed hundreds of millions of dollars more in a bidding frenzy for baseball and basketball rights, in many cases doubling what leagues previously received, according to people close to the leagues.

The competition shows how valuable sports has become in videogames, as sports games move into the mainstream of the entertainment industry. Sports videogames accounted for $1.3 billion of the $7.3 billion total of U.S. videogame retail sales last year, according to researcher NPD GROUP INCORPORATED.

And for leagues, teams and players, fees from game publishers are an increasingly important source of revenue. At the NATIONAL BASKETBALL ASSOCIATION (NBA), for instance, games are the second biggest licensing item after apparel, providing a quarter of license fees, the NBA says.

Promotional benefits may be greater still. Many sports executives believe that videogames are vital for involving the youngest fans in pro sports, as television audiences stagnate. U.S. households tuning in to NFL games are about flat over 10 years -- higher on cable but lower on broadcast television. Over the same period, annual sales of EA's MADDEN FOOTBALL VIDEOGAME have more than quadrupled.

A sports videogame that catches on is like an ANNUITY. The maker can release an updated version just before each new season, and hard-core fans will shell out $50 or so for the disc to have the latest roster of players.

"You can put three more drops of perspiration on a forehead" of a player "and you've got $50," says CARL YANKOWSKI, chief executive of publisher MAJESCO ENTERTAINMENT COMPANY.

But the bidding wars may squeeze profits for some publishers by loading them with more costs for rights. Meanwhile, they face another increased cost -- writing games for new consoles due out in a few months from NINTENDO COMPANY, SONY CORPORATIN and MICROSOFT CORPORATION. Creating a game for the new formats may cost $20 million or more, say industry executives, double the cost of developing a game for current machines.

Sports videogames feature remarkably lifelike athletes, stadiums and uniforms, but leagues and players' unions are negotiating ever-bigger fees for the right to use those details. Professional leagues are closely watching the heated competition among game publishers, hoping to exploit it for still-higher fees.

The main face-off involves EA and TAKE-TWO, pitting a staid incumbent against a scrappy challenger. EA, the incumbent, avoids the most violent and sexually suggestive games. Based in REDWOOD CITY, CALIFORNIA, it operates like a consumer-products business, using focus groups and M.B.A. marketers to churn out games it can be confident will sell.

TAKE-TWO, based in NEW YORK, cultivates a counterculture spirit, and is more likely to take a chance on an edgy new game. Where EA makes TIGER WOODS GOLF, TAKE-TWO publishes a game called OUTLAW GOLF, featuring tattooed convicts and women in bikinis.

TAKE-TWO's prize possession, GRAND THEFT AUTO, which has players roaming an inner city assaulting thugs, throws off lots of money. Versions of it helped TAKE-TWO accumulate more than $250 million in cash by last summer. TAKE-TWO, which had long envied EA's consistent financial returns, decided to use some of the loot to take on EA on its home field.

EA's first big score in sports videogames was in 1983. That year it paid basketball stars JULIUS IRVING and LARRY BIRD $20,000 each to use their names and likenesses, according to EA founder TRIP HAWKINS. Mr. Bird, through a spokesman, says he recalls the terms differently but won't elaborate. Mr. Erving declines to comment.

EA's most valuable player joined the roster a few years later when Mr. Hawkins got football broadcaster and ex-coach JOHN MADDEN to lend his name and expertise to a football videogame. MADDEN FOOTBALL has since racked up some $1.5 billion in retail sales. Mr. Hawkins now heads DIGITAL CHOCOLATE INCORPORATED, a SAN MATEO, CALIFORNIA, company that makes videogames for cellphones.

While other game makers have had hits in certain sports -- such as JAPAN's KONAMI CORPORATION in soccer -- EA held 63% of the overall U.S. market for sports videogames as of last year, estimates ARCADIA INVESTMENT CORPORATION, a research firm in PORTLAND, OREGON.

At TAKE-TWO, a major asset is its subsidiary ROCKSTAR GAMES, a group of several hundred developers that includes a team in SCOTLAND who created GRAND THEFT AUTO. ROCKSTAR doesn't do focus groups. Its team "makes games they want to play," says TAKE-TWO's chief executive, PAUL EIBELER.

At a recent trade show in LAS VEGAS, while TAKE-TWO and others ran typical welcoming booths, ROCKSTAR showed its new games only to select attendees, inside tour buses with blacked-out windows behind chain-link fences.

For its plunge into sports, TAKE-TWO, rather than spend years developing its own videogames, agreed to co-publish and market a line of football games using ESPN broadcasters and cable-station insignia. They hadn't been selling well. Their publisher, SEGA SAMMY HOLDINGS INCORPORATED, which was pricing them at the same $50 level as MADDEN FOOTBALL, sold just 361,000 copies in the U.S. in 2003, for a total of $17.7 million at retail, according to NPD.

When TAKE-TWO cut the price to $20, fans responded. In just the second half of 2004, TAKE-TWO and SEGA sold 2.7 million copies of the ESPN football games in the U.S., for $53 million at retail. The offensive pressured EA, which pared the price of MADDEN FOOTBALL to $30. That game remains much more popular. Fans bought 5.6 million copies of MADDEN FOOTBALL last year, which was up 10% from 2003.

Around the same time, the NFL and its players' union were rethinking how they licensed their brands to game publishers. Instead of licensing multiple publishers, they indicated early last year they would be willing to consider an exclusive deal. Using such a system in apparel licensing -- with REEBOK INTERNATIONAL LTD. holding sole rights -- had led to higher profits, the league and players say.

The NFL and union told publishers they could bid for an exclusive license to make NFL games, for a nonexclusive license, and for a semi-exclusive deal that would leave the door open, as well, to the firms that build game consoles. The new approach pitted the game publishers against one another as never before.

TAKE-TWO preferred a nonexclusive license. But EA, which had long wanted an exclusive deal with the league, made an aggressive bid for sole NFL rights. It won them with its $400-million-plus offer, a value that includes a commitment by EA to help market actual football games. Annualized, the contract brings the NFL and players' union roughly twice what they got in the past from multiple licensees, say people familiar with the matter.

The pricey pact will make EA's football games "significantly less profitable," says MARK ARGENTO, an analyst at THINKEQUITY PARTNERS LLC, a stock-research firm in MINNEAPOLIS. EA says in a recent regulatory filing that it expects to generate more revenue as a result of the NFL and other exclusive sports deals, but "it may not be enough to offset the impact of the associated costs on our gross profit, which could negatively affect our gross margin on these products."

Meanwhile, after EA cut MADDEN FOOTBALL's price to counter TAKE-TWO, the dollar amount of its U.S. retail sales slipped 3% last year despite higher unit sales, according to NPD GROUP. EA has also suffered from weak sales of car-racing games and certain other titles, resulting in a 91% drop in earnings and an 8% slip in revenue in the March 31 quarter. TAKE-TWO, in its fiscal quarter ended April 30th, had a 45% revenue jump and a narrowed net loss, thanks partly to a new edition of GRAND THEFT AUTO called SAN ANDREAS.

TAKE-TWO recently faced A SECURITIES AND EXCHANGE COMMISSION INVESTIGATION of its accounting, which focused, among other issues, on whether it improperly pushed products down the distribution chain. Last month it agreed to settle the matter for $7.5 million without admitting or denying wrongdoing.

EA's exclusive licenses have reduced the threat of price wars, since TAKE-TWO and others, while they can still make football games, can no longer depict NFL uniforms or stadiums or players. EA won't say how it will price a new version of MADDEN FOOTBALL due out later in the summer.

EA's other exclusive license, with ESPN, helps to keep ESPN parent THE WALT DISNEY COMPANY -- which has been getting into videogames -- out of the sports-game business. And the exclusive deals give EA more clout as it negotiates the royalties it must pay to the game-console makers to develop titles for their new machines. "We play hard," says FRANK GIBEAU, EA's senior vice president of North American marketing, seated in a conference room labeled "RESISTANCE IS FUTILE."

After EA's deal with the NFL in December, TAKE-TWO's stock slid 10% in a week. "Certainly, losing football was a blow to us," says TAKE-TWO's Mr. Eibeler.

TAKE-TWO soon struck back, in baseball. MAJOR LEAGUE BASEBALL (MLB), like the NFL, wanted to reduce the number of videogame licensees. But unlike football, it wasn't willing to cut out the game-console makers, because of their marketing muscle. Baseball offered semi-exclusive rights, allowing a license to only one independent publisher (that is, one that isn't part of a console manufacturer).

In one way, EA's football deal helped TAKE-TWO win over baseball executives. They fretted that if they went with EA, they could end up playing second fiddle at that publisher, since football is a much larger category. In January, TAKE-TWO won a license as the only independent publisher that can offer mainstream videogames using MAJOR LEAGUE BASEBALL insignia. The value of the seven-year agreement is estimated at a little under $200 million to nearly $300 million, according to people familiar with it. Hardware companies remain free to negotiate separately with baseball and its players' union for licenses, as SONY already has.

The sports battle shows no sign of letting up. TAKE-TWO this year acquired VISUAL CONCEPTS, the studio that had created the ESPN games for SEGA. And EA has signed exclusive deals for NCAA football videogames and with THE ARENA FOOTBALL LEAGUE for a title based on that increasingly popular indoor sport.

Other publishers aren't letting EA's NFL deal get in their way -- SONY and CHICAGO-based MIDWAY GAMES INCORPORATED plan to release football games featuring fictional teams and characters who suffer violent hits and engage in edgy off-field behavior like gambling, neither of which would be permitted by the NFL if the publishers had deals with the league.

Tom Blais and Dave Walsh, thanks for the post.