The Nanyang MBA

NANYANG TECHNOLOGICAL UNIVERSITY

ANALYSIS OF TECHNOLOGICAL CHANGE

EFFECTS ON THE GAMES INDUSTRY

NANYANG BUSINESS SCHOOL

THE NANYANG MBA

B6835 – Competitive Strategy

Group Written Assignment

September 7, 2009

Written By:
Chong Sheng Jiat, Corey (Email: chongsj@gmail.com)
Jan Goh Sze Ching (Email: jangohsc@gmail.com)
Michelle Lau (Email: laumichelle6@gmail.com)
Vic Hui Co (Email: vic_co@hotmail.com)
Rabani Gupta (Email: rabanigupta@gmail.com)

Course Instructor: Prof. Patrick T. Gibbons

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INTRODUCTION
The Games industry continuously innovates and makes use of new technologies to
gain market share. Players include digital entertainment & graphics design companies
that have revolutionized the way people play games. Most recently, there are news
reports covering the beta launch of Cloud-based Online Gaming Platform called
OnLive that brings games on-demand, anytime, anywhere to gamers all over the world.
Our report is a non-exhaustive commentary on the games industry. To aid us in
our discussion of the prognosis for the future, we have done a strategic analysis of the
top three players by market capitalization and market segment, and two new entrants
by geographical region (China) and disruptive technology (Cloud).
Through our research, we found that the
video games industry experienced profitable
growth. Revenue increased for the last 5 years
at a Compound Annual Growth Rate (CAGR) of
17.7% and total market capitalization is
estimated to be around $49.6 billion (Figure 1).
The global market growth by segment appended
in the table below:
The video game industry has been plagued
by piracy since the 1980s. The console and PC gaming segments are the worst-hit
due to rampant hacking. With the advent of the Internet, the video games industry
captured the lost revenue (of traditional consoles & PC games to piracy) by capitalizing
on consumers’ preferences of collaborative play and the multi-user environment in
the online gaming market. This accounted for the large difference in CAGR of these
segments. Although with technology advances to deter piracy (e.g. server-side security
firewalls, game protection technologies and password protected logins for users), it did
shift the distribution control back to the game provider, pirated PC games still
continued to be sold.
Moving forward, our report will analyze the key players in this industry and
postulates how the future will look like for the video games industry.

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KEY PLAYERS IN THE GAMES INDUSTRY

1. Activision, Inc. & Blizzard Entertainment

Activision, Inc.’s Positioning & Key Strategic Moves - The year 2006 marks the
beginning of transition in consoles and shift in consumer demand away from the
current generation software to new consoles. Activision had established an early
presence in next-generation platforms since 2004 by forging several key alliances and
expanded into new geographies. In one such move, Activision and Nielsen
Entertainment entered into a strategic alliance to jointly create a reliable measurement
of the effectiveness of in-game advertising (Activision, Inc. Annual Reports 2004-07).
Activision’s key strategy was simply to create, license and acquire a group
of highly recognizable brands, and market them to a variety of consumer
demographics. Activision actively pursued game title development that is compatible
to all new console platforms (e.g. Sony PlayStation 2 and 3, Nintendo GameCube,
Microsoft Xbox, Nintendo Game Boy Advance, PlayStation Portable, Nintendo Dual
Screen and Nintendo Wii). Given their large and growing installed base, they had a
clear strategy in place to build significant presence at the launch of each new platform
while being careful not to move away too quickly from the current generation platforms.
Blizzard Entertainment’s Positioning & Key Strategic Moves - Blizzard
Entertainment was founded in February 1991 by three UCLA graduates. After a series
of product launches, the company created Warcraft in 1994 and the breakthrough
MMOG version World of Warcraft (WoW) in 2004. WoW boasts monthly subscribers of
11 million around the globe today. Blizzard has a culture that champions both
productive and experimental creativity which inspires devoted players. Jeff Green,
editor-in-chief of the online gaming magazine 1Up.com says, “[Blizzard people] are
essentially design geniuses, making games easy enough for casual players and
deep enough to attract and hook hard-core Sony, 2%
Ankama, 3% Others,
players. Simple to learn, difficult to master Square-Enix, 3% 8%

is the holy grail of game design, and

Jagex, 8%
Blizzard does this every single time.” NCSoft, 14% Blizzard, 62%

Blizzard Entertainment dominated the

online gaming segment with 62% market
Figure 2: MMOG Market Share Source : Business Insights Ltd
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share (Figure 2) and entered the console market through $18.9bn strategic
acquisition of Activision in 2008 to form Activision Blizzard, Inc, producing games
that can be played across all consoles. The merger helped Blizzard enter the
dedicated systems market produced by Microsoft, Nintendo and Sony, and has
positioned Activision Blizzard as the largest, most profitable, pure-play
interactive entertainment software publisher even till today. Activision Blizzard,
Inc.’s Performance, Positioning & Key Strategic Moves – As per its 2008 Annual
Report, Activision Blizzard, Inc. grew by 26% (year-on-year growth) through the
merger. However, in 2008 net loss of $107 million was reported, because of increased
product costs, software royalties, intellectual property licenses, and sales & marketing
due to the acquisition.
Activision Blizzard, through its subsidiaries, develops and publishes online video
games via Battle.net, personal computer (PC), console, and hand-held games
worldwide. It also publishes interactive software products and peripherals
internationally, and covers various game genres, including action/adventure, action
sports, racing, role-playing, simulation, first-person action, music, and strategy. In
North America, Activision Blizzard was the number one console and hand-held
software publisher in dollars for the quarter ended December 31, 2008, according to
The NPD Group.
With increased creation of game titles based on popular movie titles, the license
royalties also increased the product costs payable to affiliates such as Lucas and to
movie makers.
2. Electronic Arts, Inc.
Electronic Arts, Inc.’s Positioning, Performance & Key Strategic Moves -
Electronic Arts, Inc. develops markets, publishes, and distributes video game software
and content that can be played on various consumer
platforms. The company provides its products through
mass market retailers, electronics specialty stores, game
software specialty stores, online stores, mail-order and
distributors.
EA has three major game labels – the Games Label, Sports Label, and Play
Label. EA Games label is home to the largest number of EA studios and development
teams, which together create an expansive and diverse portfolio of games, in such
genres as action, action-adventure, role playing, racing and combat games.

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It also provides a collection of sports-based video games under EA SPORT label.

This brings together a wide collection of sports-based video games marketed under
the EA SPORTS brand, ranging from Figure 3: Number of EA Game Titles Developed for Console Platforms in FY2009
Number of titles developed and
Platform
simulated sports titles with realistic published by EA in fiscal year 2009
Xbox 360……………………………..
………………………………………….. 24
graphics based on real-world sports PLAYSTATION 3……………………..
………………………………………….. 22
PC…………………………………….
………………………………………….. 22
leagues, players, events and venues to Nintendo DS………………………….
………………………………………….. 22
Wii…………………………………….
………………………………………….. 20
more casual games with arcade-style game Play Station 2………………………..
……………………………………………. 14
PSP…………………………………..
………………………………………….. 8
play and graphics.
Distancing its portfolio from other competitors, EA’s Play Label creates and
markets games and experiences that are easily accessible, inspire creativity and fun,
and transcend core video game culture into a world of engaging and relevant
entertainment for people of all ages.
Due to EA’s extensive games portfolio and positioning, it is in direct competition
with Sony, Microsoft and Nintendo for the packaged goods videogame segment, and
other players like Activision Blizzard, Capcom, Infogrames Entertainment SA, Koei,
Konami, Ubisoft, and so forth.
EA’s key strategic focus is to drive hits for its game titles on console platforms (see
Figure 3), improve marketing through partnerships with Wii, in particular by specially
designed “pushing play” EA-Wii games, expand digital services
and providing Internet-based advertising and digital content,
through game titles such as The Sims, thus generating
advertising revenue from wireless devices.

3. The Console Players: Sony, Microsoft, Nintendo

Console Players’ Positioning & Key Strategic
Moves - The console gaming segment has
the largest market share within the electronic
games industry and is dominated by 3 big
players – Nintendo (Wii), Sony (Playstation)
and Microsoft (Xbox). We can regard their
business model as resembling a razor and
blade strategy with the console hardware as
the razor and the games software as the blade.
Hardware is typically sold with minimal profit or
even at a loss but recouped with a higher margin

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software business. It is the sales of blockbuster games that helped to generate profits
for the company.
Referring to Error! Not a valid bookmark self-reference., Nintendo was the best
performer with consistent profit margin of 18% to 29%. In contrast, Microsoft has been
suffering huge losses in this business segment although it turned positive in 2008. In
terms of market share or revenue, Sony was the market leader but Nintendo caught up
rapidly with Sony within the period 2007-2008.
The war of the console was traditionally fought based on technology, features,
graphics and games sophistication to attract the hardcore gamers. When Microsoft
introduced its X-box in 2000, its specifications exceeded almost all aspects of the Sony
Playstation 2. Its targeted customer’s base was young hardcore gamers in the 18-28
year age bracket. Sony responded with an improved PS3, but the launch was delayed
due to its strategy to try to incorporate a Blu-ray drive within every PS3. Blu-ray was at
that time competing against HD-DVD as a standard next generation high definition
video player. Putting its Blu-ray player in every PS3 would immensely improve the
chance of it being adopted by the industry instead of HD-DVD. As it turned out, Blu-ray
emerged the winner in the high definition standards race but Sony lost out in its race
against Microsoft and Nintendo to capture installed base in its game console market
space. While Microsoft and Sony were competing to launch more powerful consoles,
Nintendo had other things in mind.
Nintendo’s strategy with the introduction of Wii was crucial to its success. Instead
of crowding within the hardcore gamers’ market space, it aimed to target a new group
of customer segment and carve out a new niche for itself. First, it lowered its cost
structure by decreasing the processor speed and graphics quality and followed by
designing games that do not need such high hardware requirement. Such games are
then marketed towards family oriented customers who have different requirements
such as simple to play, cartoon graphics instead of 3D-realism, family games, body-
motion based instead of game pad controller, etc. Nintendo designed a new set of
wireless controls that allows gamers to mimic life-like actions (like fishing, bowling and
tennis) for gaming control. Through this strategy, Nintendo managed to create a new
market space for itself with larger customer base, gain first mover’s advantage in this
new segment, and enjoy cost leadership in this price sensitive consumer goods
industry.

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Going forward, the ability to integrate console gaming with the internet may
be the next battle ground. For example, Microsoft’s new Xbox 360 online service,
Xbox Live, will allow its customers to experience a whole new community-driven
experience. Gamers would be able to download games and play against global
gamers. Besides using their console for gaming purposes, Sony also hopes the PS3
with an incorporated Blu-ray player to be the default entertainment player in every
household. This also sets the hardware specification needed to deliver high definition
3D graphics for future Sony games. With Nintendo Wii targeting the casual gamers
using a low cost strategy, Microsoft XBox targeting the hardcore gamers using its
technological features, and Sony PS3 focusing on providing an integrated
entertainment device, it remains to be seen which one would turn out the winner.

4. The Rise of New Chinese Entrants: Nineyou.com (久游

久游)
久游
There has been a recent increase in terms of gaming appetites across the regions
globally. North America is the largest gaming market with very strong emphasis on
realism (action and sports titles); Japan is focused more abstract, cute designs and
titles. In Asia, PC online game sales are exploding and companies such as Nineyou
and Changyou exploit such opportunities in China (In 2007, online games revenue
reached RMB 128 billion and expected to grow to RMB 400 billion by 2011 (iResearch,
2009).
Nineyou (www.9you.com) is China's leading game developer & operator of
Interactive Entertainment Community V2.0 and captures 55.6% of the Chinese Online
Games market (iResearch, 2008, pp 15). It offers online game genres such as music
and dance, sports (racing) & fighting simulation games in addition to multiplayer online
role-playing games (MMORPG). Their target market is the Chinese around the world
who enjoy a premium high quality one-stop interactive entertainment service. Since its
establishment, Nineyou has adapted a unified account business model for users and
adopted a licensing strategy for its in-house developed MMOG "Super Dancer Online",
which has been licensed out for operations in over 42 territories abroad. Nineyou had
over 380 million subscribers, as of 2009, and its website is one of the highest traffic
online game portals in mainland China.

5. New Entrant using Disruptive Technology: OnLive, Inc.

During the Game Developers Conference 2009, OnLive, Inc. shocked the
videogame industry by unveiling a revolutionary change to the way games are played,
via next generation cloud technology (Roper, 2009). Cloud technology is essentially
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an online web service for gaming that does away with the need to own expensive
consoles, high end PC’s, or even to download games. The end user needs a PC
connected to internet using the keyboard/mouse or an optional OnLive controller. The
rest of the processing takes place on OnLive’s cloud servers. The gamer is also able to
connect the output onto the normal PC screen, OnLive MicroConsole or an
analog/High Definition TV. Everything is run on the Internet and the game can be
played in the comfort of one’s own home. Well-known game publishers such as EA,
Take-Two, Ubisoft, Epic, Atari, Codemasters, Warner Bros., THQ and Eidos are known
to have signed up to launch games on this service.
OnLive’s business strategy is making games available to anyone that has internet
access and “pay as you play” pricing model. Though the OnLive Micro Console &
Controller are optional, OnLive intentionally kept the price low and very affordable
(cheaper than the cheapest of consoles). OnLive games could possibly be the answer
to tackle PC game piracy as one can gain access to games only via a secured
connection to OnLive servers (same as MMOG). The OnLive business model provides
gamers an option to either purchase fully (own a game title) or to rent a title for a
specified amount of time. The pricing model is likely to appeal to avid PC gamers.

DRIVERS OF OVERALL PROFITABILITY IN THE GAMES

INDUSTRY

Just a few decades ago, electronic games were mostly played on PC’s where
game titles were limited to poor graphics and simple storylines. With the explosive
increase in processing power of CPU and graphic chips, game designers were able to
design complicated games with high quality graphics to entice gamers. We have now
seen from the Wii example (Wii targeted females and the older age-group attracted to
casual and social gaming) that games need not be sophisticated to win market
share. Going ahead, firms that can introduce innovative technologies to simplify game
playing without removing the fun factor will have a first mover’s advantage.
Online gaming has also been gaining popularity at the expense of the PC gaming
segment. Even gaming consoles started to incorporate online capability as a default
feature. Hence, increasing broadband penetration globally would have a positive
impact on the games industry. According to Business Insights (2009), the number of
global broadband users will increase to 667Mn in 2013 and reach a penetration rate of
9.5%. Besides the availability of broadband internet, the increased interaction

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between online gamers would also improve the experience of gamers and help to
increase the popularity of MMOGs.
Recent years have witnessed the growth of 3G phones and Smart phones
(global mobile penetration increased from 27.6% in 2004 to 61.1% in 2008 and 3G
share of mobile subscription is projected to hit 50% in 2013 compared to 4% in 2005)
in particular the iPhone from Apple. Mobile phones of the future will not just be
telecommunication devices but will also act as mobile entertainment devices and PDAs.
Their ability to access internet cheaply and at fast speed through 3G technology would
complement the online gaming market. On the downside, mobile games are many
times offered free or with advertisements and it may not be a profitable business model
(ex. Apple’s iTunes offers many games free). Instead, firms could introduce their online
games to a mass audience through the mobile phone medium, and further entice them
to upgrade to the full-blown version of their online games (through broadband
connection), in turn reap real profits.

5 FORCES ANALYSIS FOR VIDEO GAME INDUSTRY

Definition of Industry - The game industry under analysis includes: a) Electronic
games software for PC/Mac, b) Hardware and software for stand-alone and mobile
game consoles, c) All forms of online gaming (excluding gambling), and d) Mobile
gaming applications for mobile device platforms. Video games available as
amusement arcade machines are excluded.

1. Internal Rivalry - The sources of internal rivalry among the firms stem from the
following:
First-mover advantage: The ability to bring in new products and create excitement
in the market is a key success factor in this industry. Blizzard Entertainment, with its
World of Warcraft (WoW), was able to drive the market towards massive multiplayer
online game (MMOG), and today, the company boasts of 11 million monthly
subscribers across the globe. Contrastingly Sony, with its 6-month delay in launching
PS3 in 2006, allowed Nintendo’s Wii to overtake and gave a year’s head start to
Microsoft and its Xbox 360.

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Capacity to sustain product life-cycle: Creating excitement through new products

that use new technology, new interface or new playing techniques is one success
factor, but the ability to sustain this excitement through creating challenges and
fostering communities brings another dimension to competitiveness. This is especially
true with online games, where the switching cost is relatively very low.
Mobility of players across format segments: With vectors of differentiation within
formats being exhausted, players have begun to move across formats as a method of
expansion. In the case of console segment, the use of high-speed internet
connectivity has become an integral part of this group’s strategy in the recent years,
and each player is addressing this through online game-play, digital distribution,
community building and alternative content (music and movie).
From the above analysis, it can be derived that the rivalry among firms within
and across game formats (strategic groups) is high.
2. Barriers to Entry - The key barrier to entry comes from the cost of game
development, both in the areas of hardware and software as well as the royalties
paid. When Sony developed PS3, the brain of the machine, a fingernail-sized
microprocessor was developed at a cost of US$400M, and Sony tied-up with
Toshiba and IBM. Blizzard spent around US$500M in the development of WoW in
2004 (on-line games). This, together with the manpower resources and the
corporate culture to come up with new innovative games and the identification of
new technology for the gaming industry make the entry barrier high for the
overall game industry.
3. Power of Suppliers - The key suppliers in this industry are the microprocessor
developers for hardware, generally original equipment manufacturers (OEMs).
Many OEMS would tie up with the game manufacturers in R&D but the intellectual
property rights (IPRs) belong to the game developers. Thus we believe that the
power here is relatively leveled and the barrier because the OEMs are also
producing for the PC Industry (which is still much larger than the games industry).
The entry barrier low to moderate for the overall game industry.
4. Power of Customers - In the case of console players, customers are basically
locked up to the format after purchase, while in the case of online and mobile
games there is no switching costs but communities can be formed. Thus, a
customer’s bargaining power in this industry is dynamic, and is affected by other
factors such as the stage in purchase cycle and degree of attachment/ addiction.

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The players need to identify and ensure that they capture the customer’s
taste and preference in order to exploit these factors to their advantage.
5. Substitutes – There would be substitutes for the game industry if there is a new
disruptive technology being invented and introduced that creates a new form of
delivery. For example, the OnLive cloud service for gaming positioned the firm in
direct competition with all existing segments. The entry barrier here is relatively
low because game popularity or sales do not rely solely on big brand factor, it also
relies heavily on fun, story plot, interface and addictive factors. With new entrants,
the rivalry in the industry intensifies further.

PROGNOSIS:
NEXT GENERATION GAMING INDUSTRY’S ‘WARFARE’

To study the next generation of warfare in

gaming, we chose to categorize the gaming
battlefields across two parameters:
1. Profitability – shows the high degree
of variation prevalent across the
battlefields i.e. Consoles, Mobile
Devices, PC’s and Online games.
2. R&D Intensity - The gaming industry is all about continuous innovation that will
lead to greater technological advancement. Increased focus on R&D (budgeting
for this) can enable companies to gain first mover’s advantage, create greater
barriers to entry, in turn boost their profitability.
We plotted the four segments in “Strategic Groups” and in our opinion Group 4 is
the most viable “Strategic Group”. Clearly, since there are performance differences
between these groups, there are strong incentives for players within each group to
move between groups and ultimately to the most viable group i.e. Group 4.
Strategic Group 1: This is not a viable group as it is not sustainable in the long
run. A competitor who comes out with a superior, technologically advanced solution
(due to his investment in R&D) can outpace a company that abstains from investing in
R&D, and eventually capture its market share.
Strategic Group 2 – PC’s: Being outpaced by new easy to use devices (mobiles,
portable devices), and themselves requiring extensive hardware, PC gaming does not
prove to be very profitable in the future. Also the games being played on PC’s are easy

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to pirate and that further drives down the profitability of this segment. R&D intensity of
this segment is also relatively low in comparison to new entrants in the gaming
battleground.
Strategic Group 3 – Mobiles: The “Play on the Go” feature provided by these
devices and the ease of availabilty of these devices has required significant investment
in R&D (Although development cost of each game is not very high). Also to constantly
sophisticate the graphics on mobiles requires further investments in research. On the
profitalibility front however, freebies such as free games drive down profitability.
Similarly, we think that this group has potential to move into a sphere of higher
profitability and R&D intensity.
Strategic Group 4 – Consoles: Many gamers look for sophisticated applications
when playing a game. This naturally requires significant R&D investment and also
results in highest profitaility. This is by far the best Strategic Group to be in.
Strategic Group 5 – Online Gaming: The Online gaming segment though not as
profitable as consoles, will pick up pace in our opinion. It is therefore clubbed in a
group that has required medium R&D investment (which is on an increase).

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CONCLUSION

As observed in the Strategic Mapping, existing key players will likely, in their quest
for profit, strive to overcome their mobility barriers and eventually become more
structurally viable by moving towards strategic group 4. From the gamer perspective,
their willingness to pay depends on dimensions such as graphics, game plot, challenge
level, availability and price, and they are faced with a plethora of media choices as well
as a plethora of media devices. Due to a low capital requirement for typical software
development projects, there is hence a low barrier of entry for small software firms or
startups to innovate and publish game titles that are appealing to gamers, which is
easily marketed and sold via Internet platforms like Facebook. Thus, such small
players may disrupt the market should the game they develop become popular and tilt
the market to their advantage.

Key players in the console & online segments are likely to license such game titles
or acquire startups, and at the same time involve in game creation and infrastructural
building, shifting game play service onto a Cloud Infrastructure, seeking to generate
revenue from every gamer globally by leveraging on Internet proliferation, distribution
cost pains of game publishers, and Internet connectivity provided by mobile phones.

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APPENDIX – BIBLIOGRAPHY

i. Activision Blizzard, Inc. (2004-2008). Fiscal Annual Reports. Retrieved from the
World Wide Web on September 23, 2009:
http://investor.activision.com/annuals.cfm

ii. Business Insights. (2009). The Video Gaming Market Outlook: Evolving business
models, key players, new challenges and the future outlook.

iii. iResearch Consulting Group. (2009). China Online Game Research Report for
2007-2008 (中国网络游戏运营商竞争力报告). Retrieved from the World Wide Web
on September 23, 2009: http://www.iresearch.com.cn

iv. Roper, Chris. (March 23, 2009). OnLive Introduces the Future of Gaming: Next-
generation "cloud" technology could change videogames forever. Game
Developers Conference 09. Retrieved from the World Wide Web on September 23,
2009: http://pc.ign.com/articles/965/965535p1.html

v. AFP. (September, 2009). As phones get smarter, game makers ring the changes.
Retrieved from the World Wide Web on September 23, 2009:
http://sg.news.yahoo.com/afp/20090929/ttc-entertainment-japan-game-technology-
0de2eff.html

vi. Global Entertainment and Media Outlook 2008 – 2012: Ireland – 16th October,
2008.

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