Develop a Porter’s Five Forces analysis of the home video game industry. Focus in particular on the strength of complements, substitutes, and the power of suppliers. What is your overall conclusion regarding the intensity of rivalry in this industry?

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Home >Business & Finance homework help >Management homework help >Develop a Porter’s Five Forces analysis of the home video game industry. Focus in particular on the strength of complements, substitutes, and the power of suppliers. What is your overall conclusion regarding the intensity of rivalry in this industry?

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-1 An Indu tr I orn

ook Title: trategic Management: An Integrated Approach Theor & Ca e

Printed : uri Gurumurthi ( [email protected])

18-1 An Indu tr I orn In 1968, Nolan u hell, the 24- ear-old on of a Utah cement contractor, graduated from the

Univer it of Utah with a degree in engineering. u hnell then moved to California,

where he worked riefl in the computer graphic divi ion of Ampex. At home, u hnell

turned hi daughter’ edroom into a la orator . There, he created a impler ver ion of

pace War, a computer game that had een invented in 1962 an MIT graduate tudent,

teve Ru ell. u hnell’ ver ion of Ru ell’ game, which he called Computer pace, wa

made of integrated circuit connected to a 19-inch, lack-and-white televi ion creen.

Unlike a computer, u hnell’ invention could do nothing ut run the game, which meant

that, unlike a computer, it could e produced cheapl .

u hnell envi ioned videogame like hi tanding next to pin all machine in arcade .

With hope of having hi invention put into production, u hnell left Ampex to work for a

mall pin all compan that manufactured 1,500 copie of hi videogame. The game never

old, primaril ecau e the pla er had to read a full page of direction efore pla ing—wa

too complex for arcade gaming. u hnell left the pin all compan and with a friend, Ted

Da ne , put up $500 to tart a compan that would develop a impler videogame. The

wanted to call the compan z g , ut the name wa alread taken, o the ettled on

Atari, a Japane e word that i the equivalent of “check in the go.”

In hi home la orator , u hnell uilt the imple t game he could think of. People knew the

rule immediatel , and it could e pla ed with one hand. The game wa modeled on ta le

tenni , and pla er atted a all ack and forth with paddle that could e moved up and

down ide of a court twi ting kno . He named the game Pong after the onarlike ound

that wa emitted ever time the all connected with a paddle.

In Fall 1972, u hnell in talled hi protot pe for Pong in And Capp’ tavern in unn vale,

California. The onl in truction were “avoid mi ing the all for a high core.” In the fir t

week, 1,200 quarter were depo ited in the ca erole di h that erved for a coin ox in

u hnell’ protot pe. u hnell wa ec tatic; hi imple game had rought in $300 in a week.

The pin all machine that tood next to it averaged $35 a week.

Lacking the capital to ma produce the game, u hnell approached e ta li hed

amu ement game companie , onl to e repeatedl hown the door. Down ut hardl out,

u hnell cut hi hair, put on a uit, and talked hi wa into a $50,000 line of credit from a

local ank. He et up a production line in an a andoned roller- kating rink and e hired

people to a em le machine while Led Zeppelin and the Rolling tone were pla ed at full

volume over the peaker tem of the rink. Among hi fir t atch of emplo ee wa a

kinn , 17- ear-old named teve Jo , who would later found Apple Computer, NeXT, and

Pixar. Like other , Jo had een attracted a cla ified ad that read “Have Fun and Make

Mone .”

In no time at all, u hnell wa elling all the machine that hi mall taff could make—

a out 10 per da — ut to grow, he needed additional capital. While the am ience at the

rink, with it mix of rock mu ic and marijuana fume , put off mo t potential inve tor , Don

Valentine, one of the countr ’ mo t a tute and credi le venture capitali t , wa impre ed

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with the growth tor . Armed with Valentine’ mone , Atari egan to increa e production

and expand their range of game . New game included Tank and reakout; the latter wa

de igned Jo and a friend of hi , teve Wozniak, who had left Hewlett-Packard to work

at Atari.

1974, 100,000 Ponglike game were old worldwide. Although Atari manufactured onl

10% of the game , the compan till made $3.2 million that ear. With the Pong clone

coming on trong, u hnell decided to make a Pong tem for the home. In fact, Magnavox

had een marketing a imilar game for the home ince 1972, although ale had een

mode t. u hnell’ team managed to compre Atari’ coin-operated Pong game down

to a few inexpen ive circuit that were contained in the game con ole. Atari’ Pong had a

harper picture and more en itive controller than Magnavox’ machine; it al o co t le .

u hnell then went on a road how, demon trating Pong to to u er , ut he received an

indifferent re pon e and no ale . A dejected u hnell returned to Atari with no idea of

what to do next. Then the u er for the porting good department at ear came to ee

u hnell, examined the machine, and offered to u ever home Pong game Atari could

make. With ear ’ acking, u hnell oo ted production. ear ran a major televi ion ad

campaign to ell home Pong, and Atari’ ale oared, hitting $450 million in 1975. The

home videogame had arrived.

Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-1 An Indu tr I orn

ook Title: trategic Management: An Integrated Approach Theor & Ca e

Printed : uri Gurumurthi ( [email protected])

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-2 oom and u t ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-2 oom and u t Nothing attract competitor like ucce . 1976, a out 20 different companie were crowding into the home videogame market, including National emiconductor, RCA, Coleco, and Fairchild. Recognizing the limitation of exi ting home videogame de ign , Fairchild came out in 1976 with a home videogame tem capa le of pla ing multiple game . The Fairchild tem con i ted of three component —a con ole, controller , and cartridge . The con ole wa a mall computer optimized for graphic -proce ing capa ilitie . It wa de igned to receive information from the controller , proce it, and end ignal to a televi ion monitor. The controller were handheld device u ed to direct on- creen action. The cartridge contained chip encoding the in truction for a game. The cartridge were de igned to e in erted into the con ole.

In 1976, u hnell old Atari to Warner Communication for $28 million. u hnell ta ed on to run Atari. acked Warner’ capital, in 1977, Atari developed and rought out it own cartridge- a ed tem, the Atari 2600. The 2600 tem old for $200, and a ociated cartridge retailed for $25 to $30. ale urged during the 1977 Chri tma ea on. However, a lack of manufacturing capacit on the part of market leader Atari, and a ver cautiou approach to inventor Fairchild, led to hortage and kept ale ignificantl elow what the could have een. Fairchild’ cautiou approach wa the re ult of prior experience in con umer electronic . A ear earlier, it had increa ed demand for it digital watche onl to accumulate a uildup of exce inventor that cau ed the compan to take a $24.5 million write-off.

After the 1977 Chri tma ea on, Atari claimed to have old a out 400,000 unit of the 2600 VCA, a out 50% of all cartridge- a ed tem in American home . Atari had al o earned more than $100 million in ale of game cartridge . thi point, econd-place Fairchild old around 250,000 unit of it tem. Cartridge ale for the ear totaled a out 1.2 million unit , with an average elling price of $20. Fre h from thi ucce and fortified market foreca t predicting ale of 33 million cartridge and an in talled a e of 16 million machine 1980, u hnell committed Atari to manufacturing 1 million unit of the 2600 for the 1978 Chri tma ea on. Atari e timated that total demand would reach 2 million unit . u hnell wa al o encouraged ignal from Fairchild that it would again e limiting production to around 200,000 unit . At thi point, Atari had a li rar of 9 game ; Fairchild had 17.

Atari wa not the onl compan excited the growth foreca t . In 1978, a ho t of other companie , including Coleco, National emiconductor, Magnavox, General In trument, and a dozen other companie , entered the market with incompati le cartridge- a ed home

tem . The multitude of choice did not entice con umer , however, and the 1978 Chri tma ea on rought unexpectedl low ale . Onl Atari and Coleco urvived an indu tr hakeout. Atari lo t u hnell, who wa ou ted Warner executive . ( u hnell went on to tart Chuck . Chee e Pizza Time Theater, a re taurant chain that had 278 outlet 1981.) u hnell later tated that part of the pro lem wa a di agreement over trateg . u hnell wanted Atari to price the 2600 at co t and make mone on ale of oftware; Warner wanted to continue making profit on hardware ale .

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everal important development occurred in 1979. Fir t, everal game producer and programmer defected from Atari to et up their own firm, Activi ion, and to make game compati le with the Atari 2600. Their ucce encouraged other to follow uit. econd, Coleco developed an expan ion module that allowed it machine to pla Atari game . Atari and Mattel (which entered the market in 1979) did likewi e. Third, three new game were introduced to the home market— pace Invader , A teroid , and PacMan. All three were adapted from popular arcade game , and all three helped drive demand for pla er .

Demand recovered trongl in late 1979 and kept growing for the next three ear . In 1981, U. . ale of home videogame and cartridge hit $1 illion. In 1982, the urged to $3 illion, with Atari accounting for half of thi amount. It eemed a if Atari could do no

wrong; the 2600 wa ever where. A out 20 million unit were old, and late 1982, numerou independent companie , including Activi ion, Imagic, and p x, were producing hundred of game for the 2600. econd-place Coleco wa al o doing well, partl ecau e of a popular arcade game, Donke Kong, which it had licen ed from the Japane e compan Nintendo.

Atari wa al o in contact with Nintendo. In 1982, the compan ver nearl licen ed the right to Nintendo’ Famicom, a cartridge- a ed videogame tem machine that wa a ig hit in Japan. Atari’ ucce or to the 2600, the 5200, wa not elling well; the Famicom eemed like a good u titute. Negotiation roke down, however, when Atari di covered that Nintendo had extended it Donke Kong licen e to Coleco. Thi allowed Coleco to port a ver ion of the game to it home computer, which wa a direct competitor to Atari’ 800 home computer.

After a trong 1982 ea on, the indu tr hoped for continued growth in 1983. Then the ottom dropped out of the market. ale of home videogame plunged to $100 million.

Atari lo t $500 million in the fir t 9 month of the ear, cau ing the tock of parent compan Warner Communication to drop half. Part of the lame for the collap e wa laid at the feet of an enormou inventor overhang of un old game . A out 15 to 20 million urplu game cartridge were left over from the 1982 Chri tma ea on (in 1981, there were none). On top of thi , ome 500 new game hit the market in 1993. The average price of a cartridge plunged from $30 in 1979 to $16 in 1982, and then to $4 in 1983. A ale lowed, retailer cut ack on the helf pace allocated to video game . It proved difficult for new game to make a pla h in a crowded market. Atari had to di po e of 6 million “ T: The xtraterre trial” game . Meanwhile, ig hit from previou ear uch a Pac Man were undled with con ole and given awa free to tr to encourage tem ale .

urve ing the ru le, commentator claimed that the videogame indu tr wa dead. The era of dedicated game machine wa over, the claimed. Per onal computer were taking their place. It eemed to e true. Mattel old off it game u ine , Fairchild moved on to other thing , Coleco folded, and Warner decided to reak up Atari and ell it con tituent piece —at lea t, tho e piece for which it could find a u er. No one in America eemed to want to have an thing to do with the home videogame u ine —-no one, that i , except for Minoru Arakawa, the head of Nintendo’ U. . u idiar , Nintendo of America (NOA). Picking through the ru le of the indu tr , Arakawa noticed that there were people who till packed video arcade , ringing in $7 illion a ear, more mone than the entire movie indu tr . Perhap it wa not a lack of intere t in home videogame that had killed the indu tr . Perhap it wa ad u ine practice.

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© 2016 Cengage Learning Inc. All right re erved. No part of thi work ma reproduced or u ed in an form or an mean - graphic, electronic, or mechanical, or in an other manner - without the written permi ion of the cop right holder.

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-3 The Nintendo Monopol

ook Title: trategic Management: An Integrated Approach Theor & Ca e

Printed : uri Gurumurthi ( [email protected])

18-3 The Nintendo Monopol Nintendo wa a centur -old Japane e compan that had uilt up a profita le u ine

making pla ing card efore diver if ing into the videogame u ine . a ed in K oto and

till run the founding Yamauchi famil , the compan diver ified into the videogame

u ine in the late 1970 . The fir t tep wa to licen e videogame technolog from

Magnavox. In 1977, Nintendo introduced a home videogame tem in Japan a ed on thi

technolog that pla ed a variation of Pong. In 1978, the compan egan to ell coin-

operated videogame . It had it fir t hit with Donke Kong, de igned igeru Mi amoto.

Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-3 The Nintendo Monopol

ook Title: trategic Management: An Integrated Approach Theor & Ca e

Printed : uri Gurumurthi ( [email protected])

graphic, electronic, or mechanical, or in an other manner - without the written permi ion of the cop right holder.

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-3a The Famicom ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-3a The Famicom

In the earl 1980 , the compan ’ o , Hiro hi Yamauchi, decided that Nintendo had to develop it own videogame machine. He pu hed the compan ’ engineer to develop a machine that com ined uperior graphic -proce ing capa ilitie and low co t. Yamauchi wanted a machine that could ell for $75, le than half the price of competing machine at the time. He du ed the machine the Famil Computer, or Famicom. The machine that hi engineer de igned wa a ed on the controller, con ole, and plug-in cartridge format pioneered Fairchild. It contained two cu tom chip —an 8- it central proce ing unit and a graphic -proce ing unit. oth chip had een caled down to perform onl e ential function . A 16- it proce or wa availa le at the time, ut to keep co t down Yamauchi refu ed to u e it.

Nintendo approached Ricoh, the electronic giant, which had pare emiconductor capacit . mplo ee at Ricoh aid that the chip had to co t no more that 2,000 en. Ricoh thought

that the 2,000- en price point wa a urd. Yamauchi’ re pon e wa to guarantee Ricoh a 3- million-chip order within 2 ear . ince the leading companie in Japan were elling, at mo t, 30,000 video game per ear at the time, man within the compan viewed thi a an outrageou commitment, ut Ricoh went for it.

Another feature of the machine wa it memor —2,000 te of random acce memor (RAM), compared to the 256 te of RAM in the Atari machine. The re ult wa a machine with uperior graphic -proce ing capa ilitie and fa ter action, which could handle far more complex game than Atari’ . Nintendo engineer al o uilt a new et of chip into the game cartridge . In addition to chip that held the game program, the developed memor map controller (MMC) chip that took over ome of the graphic -proce ing work from the chip in the con ole and ena led the tem to run more complex game . With the addition of the MMC chip , the potential for more ophi ticated, more complex game had arrived. Over time, Nintendo engineer developed increa ingl powerful MMC chip , ena ling the a ic 8- it tem to perform in wa that originall eemed out of reach. The engineer

al o figured out a wa to include a atter ackup tem in cartridge that allowed ome game to tore information independentl —to keep track of where a pla er had left off or to track high core .

Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-3a The Famicom ook Title: trategic Management: An Integrated Approach Theor & Ca e

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-3 The Game ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-3 The Game

Yamauchi recognized that great hardware would not ell it elf. The ke to the market, he rea oned, wa great game . Yamauchi had in tructed the engineer developing the hardware to make ure that “it wa appreciated oftware engineer .” Nintendo decided that it would ecome a haven for game de igner . “An ordinar man,” Yamauchi aid, “cannot develop good game no matter how hard he trie . A handful of people in thi world can develop game that ever one want . Tho e are the people we want at Nintendo.”

Yamauchi had an advantage in the per on of igeru Mi amoto. Mi amoto had joined Nintendo at the age of 24. Yamauchi had hired Mi amoto, a graduate of Kanazawa Munici College of Indu trial Art , a a favor to hi father and an old friend, although he had little idea what he would do with an arti t. For 3 ear , Mi amoto worked a Nintendo’ taff arti t. Then, in 1980, Yamauchi called Mi amoto into hi office. Nintendo had tarted elling coin-operated videogame , ut one of the new game , Radar cope, wa a di a ter. Could Mi amoto come up with a new game? Mi amoto wa delighted. He had alwa pent a lot of time drawing cartoon , and a a tudent he had pla ed videogame con tantl . Mi amoto elieved that videogame could e u ed to ring cartoon to life.

The game Mi amoto developed wa nothing hort of a revelation. At a time when mo t coin-operated videogame lacked character or depth, Mi amoto created a game around a tor that had oth. Mo t game involved attle with pace invader or heroe hooting la er at alien ; Mi amoto’ game did neither. a ed loo el on eaut and the ea t and King Kong, Mi amoto’ game involved a pet ape who run off with hi ma ter’ eautiful girlfriend. Hi ma ter i an ordinar carpenter called Mario, who ha a ul ou no e, a u h mu tache, a pair of large, pathetic e e , and a red cap (which Mi amoto added ecau e he wa not good at hair t le ). He doe not carr a la er gun. The ape run off with

the girlfriend to get ack at hi ma ter, who wa not e peciall nice to the ea t. The man, of cour e, ha to get hi girlfriend ack running up ramp , clim ing ladder , jumping off elevator , and the like, while the ape throw o ject at the haple carpenter. ince the main character i an ape, Mi amoto called him Kong; ecau e the main character i a tu orn a a donke , he called the game Donke Kong.

Relea ed in 1981, Donke Kong wa a en ation in the world of coin-operated video arcade and a ma h hit for Nintendo. In 1984, Yamauchi again ummoned Mi amoto to hi office. He needed more game , thi time for Famicom. Mi amoto wa named the head of a new re earch and development (R&D) group and told to come up with the mo t imaginative videogame ever.

Mi amoto egan with Mario from Donke Kong. A colleague had told him that Mario looked more like a plum er than a carpenter, o a plum er he ecame. Mi amoto gave Mario a rother, Luigi, who wa a tall and thin a Mario wa hort and fat. The ecame the uper Mario rother . Plum er pend their time working on pipe ; o large, green ewer pipe ecame o tacle and doorwa into ecret world . Mario and Luigi’ ta k wa to earch for the captive Prince Toad tool. Mario and Luigi are endearing um ler , unequal to their ta k et urviving. The hoot, qua h, or evade their enemie —including

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fl ing turtle , tinging fi h, maneating flower , and fire- reathing dragon —while the collect gold coin , low air u le , and clim vine into miling cloud .

uper Mario rother wa introduced in 1985. For Mi amoto, thi wa ju t the eginning. etween 1985 and 1991, Mi amoto produced eight Mario game . A out 60 to 70 million

were old worldwide, making Mi amoto the mo t ucce ful game de igner in the world. After adapting Donke Kong for Famicom, he went on to create other top- elling game , including another cla ic, The Legend of Zelda. While Mi amoto drew freel from folklore, literature, and pop culture, the main ource for hi idea wa hi own experience. The memor of eing lo t among a maze of liding door in hi famil ’ home wa recreated in the la rinth of the Zelda game . The dog that attacked him when he wa a child attack Mario in uper Mario. A a child, Mi amoto had once clim ed a tree to catch a view of far- off mountain and had ecome tuck. Mario get him elf in a imilar fix. Once Mi amoto went hiking without a map and wa urpri ed to tum le acro a lake. In the Legend of Zelda, part of the adventure i in walking into new place without a map and eing confronted urpri e .

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-3c Nintendo in Japan

ook Title: trategic Management: An Integrated Approach Theor & Ca e

Printed : uri Gurumurthi ( [email protected])

18-3c Nintendo in Japan

Nintendo introduced Famicom into the Japane e market in Ma 1983. Famicom wa priced

at $100, more than Yamauchi wanted ut ignificantl le than the product of

competitor . When he introduced the machine, Yamauchi urged retailer to forgo profit on

the hardware ecau e it wa ju t a tool to ell oftware, and that i where the would make

their mone . acked an exten ive adverti ing campaign, 500,000 unit of Famicom were

old in the fir t 2 month . Within a ear, the figure tood at 1 million, and ale were till

expanding rapidl . With the hardware quickl finding it wa into Japane e home ,

Nintendo wa e ieged with call from de perate retailer franticall demanding more

game .

At thi point Yamauchi told Mi amoto to come up with the mo t imaginative game ever.

However, Yamauchi al o realized that Nintendo alone could not ati f the growing thir t

for new game , o he initiated a licen ing program. To ecome a Nintendo licen ee,

companie had to agree to an unprecedented erie of re triction . Licen ee could i ue

onl five Nintendo game per ear, and the could not write tho e title for other

platform . The licen ing fee wa et at 20% of the whole ale price of each cartridge old

(game cartridge whole aled for around $30). It t picall co t $500,000 and took around 6

month to develop a game. Nintendo in i ted that game contain no exce ivel violent or

exuall ugge tive material, and the reviewed ever game efore allowing it to e

produced.

De pite the e re triction , ix companie ( andai, Capcom, Konami, Namco, Taito, and

Hud on) agreed to ecome Nintendo licen ee , not lea t ecau e million of cu tomer

were now clamoring for game . andai wa Japan’ large t to compan . The other

alread made either coin-operated videogame or computer oftware game . ecau e of

the e licen ing agreement , the aw their ale and earning urge. For example, Konami’

earning went from $10 million in 1987 to $300 million in 1991.

After the ix licen ee egan elling game , report of defective game egan to reach

Yamauchi. The original ix licen ee were allowed to manufacture their own game

cartridge . Realizing that he had given awa the a ilit to control the qualit of the

cartridge , Yamauchi decided to change the contract for future licen ee . Future licen ee

were required to u mit all manufacturing order for cartridge to Nintendo. Nintendo

charged licen ee $14 per cartridge, required that the place a minimum order for 10,000

unit (later the minimum order wa rai ed to 30,000), and in i ted on ca h pa ment in full

when the order wa placed. Nintendo out ourced all manufacturing to other companie ,

u ing the volume of it order to get rock ottom price . The cartridge were e timated to

co t Nintendo etween $6 and $8 each. The licen ee then picked up the cartridge from

Nintendo’ loading dock and were re pon i le for di tri ution. In 1985, there were 17

licen ee . 1987, there were 50. thi point, 90% of the home videogame tem old in

Japan were Nintendo tem .

Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-3c Nintendo in Japan

ook Title: trategic Management: An Integrated Approach Theor & Ca e

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-3d Nintendo in America ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-3d Nintendo in America

In 1980, Nintendo e ta li hed a u idiar in America to ell it coin-operated videogame . Yamauchi’ American-educated on-in-law, Minoru Arakawa, headed the u idiar . All of the other e ential emplo ee were American , including Ron Jud and Al tone. For it fir t 2 ear , Nintendo of America (NOA), a ed originall in eattle, truggled to ell econd-rate game uch a Radar cope. The u idiar eemed on the rink of clo ing. NOA could not even make the rent pa ment on the warehou e. Then the received a large hipment from Japan: 2,000 unit of a new, coin-operated videogame. Opening the ox, the di covered Donke Kong. After pla ing the game riefl , Jud proclaimed it a di a ter. tone walked out of the uilding, declaring that “it’ over.” The manager were

appalled. The could not imagine a game le likel to ell in video arcade . The onl promi ing ign wa that a 20- ear emplo ee, Howard Philip , rapidl ecame enthralled with the machine.

Arakawa, however, knew he had little choice ut to tr to ell the machine. Jud per uaded the owner of the pot Tavern near Nintendo’ office to take one of the machine on a trial a i . After one night, Jud di covered $30 in the coin ox, a phenomenal amount. The next

night there wa $35, and $36 the night after that. NOA had a hit on it hand .

the end of 1982, NOA had old over 60,000 copie of Donke Kong and had ooked ale in exce of $100 million. The u idiar had outgrown it eattle location. The moved to a new ite in Redmond, a eattle u ur , where the located next to a mall ut fa t-growing oftware compan run an old chool acquaintance of Howard Philip , ill Gate .

1984, NOA wa riding a wave of ucce in the coin-operated videogame market. Arakawa, however, wa intere ted in the po i ilitie of elling Nintendo’ new Famicom

tem in the United tate . Throughout 1984, Arakawa, Jud , and tone met with numerou to and department tore repre entative to di cu the po i ilitie , onl to e repeatedl re uffed. till marting from the 1983 de acle, the repre entative wanted nothing to do with the home videogame u ine . The al o met with former manager from Atari and Caloco to gain their in ight . The mo t common re pon e the received wa that the market had collap ed ecau e the la t generation of game were awful.

Arakawa and hi team decided that if the were going to ell Famicom in the United tate , the would have to find a new di tri ution channel. The o viou choice wa con umer electronic tore . Thu , Arakawa a ked the R&D team in K oto to rede ign Famicom for the U. . market o that it looked le like a to (Famicom wa enca ed in red and white pla tic), and more like a con umer electronic device. The rede igned machine wa renamed the Nintendo ntertainment tem (N ).

Arakawa’ ig fear wa that illegal, low-qualit Taiwane e game would flood the U. . market if N wa ucce ful. To top counterfeit game eing pla ed on N , Arakawa a ked Nintendo’ Japane e engineer to de ign a ecurit tem into the U. . ver ion of Famicom o that onl Nintendo-approved game could e pla ed on N . The Japane e engineer re ponded de igning a ecurit chip to e em edded in the game cartridge . N would not work unle the ecurit chip in the cartridge unlocked—-or “ hook hand with”—a chip in N . ince the code em edded in the ecurit chip wa proprietar , the

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implication of thi tem wa that no one could manufacture game for N without Nintendo’ pecific approval.

To overcome the keptici m and reluctance of retailer to tock a home videogame tem, Arakawa decided in late 1985 to make an extraordinar commitment. Nintendo would tock tore and et up di pla and window . Retailer would not have to pa for an thing the tocked for 90 da . After that, retailer could pa Nintendo for what the old and return the re t. N wa undled with Nintendo’ e t elling game in Japan, uper Mario rother . It wa e entiall a ri k-free propo ition for retailer , ut even with thi , mo t

were keptical. Ultimatel , 30 Nintendo per onnel de cended on the New York Cit area. Referred to a the Nintendo WAT team, the per uaded ome tore to tock N after an extraordinar litz that involved 18-hour da . To upport thi product launch, Nintendo committed it elf to a $5-million adverti ing campaign aimed at the 7- to 14- ear-old o who eemed to e Nintendo’ likel core audience.

Decem er 1985, etween 500 and 600 tore in the New York Cit area were tocking Nintendo tem . ale were moderate—a out half of the 100,000 N machine hipped from Japan were old— ut enough to ju tif going forward. The WAT team then moved to Lo Angele , then Chicago, then Dalla . A in New York, ale tarted at a moderate pace ut, late 1986, the tarted to accelerate rapidl and Nintendo went national with N .

In 1986, around 1 million N unit were old in the United tate . In 1987, the figure increa ed to 3 million. In 1988, it jumped to over 7 million. In the ame ear, 33 million game cartridge were old. Nintendo mania had arrived in the United tate . To expand the uppl of game , Nintendo licen ed the right to produce up to five game per ear to 31 American oftware companie . Nintendo continued to u e a re trictive licen ing agreement that gave it exclu ive right to an game , required licen ee to place their order through Nintendo, and in i ted on a 30,000-unit minimum order.

1990, the home videogame market wa worth $5 illion worldwide. Nintendo dominated the indu tr , with a 90% hare of the market for game equipment. The parent compan wa , ome mea ure , now the mo t profita le compan in Japan. 1992, it wa netting over $1 illion in gro profit annuall , or more than $1.5 million for each emplo ee in Japan. The compan ’ tock market value exceeded that of on , Japan’ premier con umer electronic firm. Indeed, the compan ’ net profit exceeded that of all the American movie tudio com ined. Nintendo game , it eemed, were igger than the movie .

A of 1991, there were over 100 licen ee for Nintendo, and over 450 title were availa le for N . In the United tate , Nintendo product were di tri uted through to tore (30% of volume), ma merchandi er (40% of volume), and department tore (10% of volume). Nintendo tightl controlled the num er of game title and game that could e old, quickl withdrawing title a oon a intere t appeared to decline. In 1988, retailer reque ted 110 million cartridge from Nintendo. Market urve ugge ted that perhap 45 million could have een old, ut Nintendo allowed onl 33 million to e hipped. Nintendo claimed that the hortage of game wa in part due to a worldwide hortage of emiconductor chip .

everal companie had tried to rever e-engineer the code em edded in Nintendo’ ecurit chip, which competitor characterized a a lockout chip. Nintendo ucce full ued them. The mo t nota le wa Atari Game , one of the ucce or of the original Atari, which in 1987 ued Nintendo of America for anticompetitive ehavior. Atari claimed that the purpo e of the ecurit chip wa to monopolize the market. At the ame time, Atari announced that it had found a wa around Nintendo’ ecurit chip and would egin to ell

unlicen ed game . NOA re ponded with a counter uit. In a March 1991 ruling, Atari

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unlicen ed game . NOA re ponded with a counter uit. In a March 1991 ruling, Atari wa found to have o tained Nintendo’ ecurit code illegall and wa ordered to top elling N -compati le game . However, Nintendo did not alwa have it all it own wa . In 1990, under pre ure from Congre , the Department of Ju tice, and everal law uit , Nintendo re cinded it exclu ivit requirement , freeing up developer to write game for other platform . However, developer faced a real pro lem: What platform could the write for?

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-4 ega’ onic oom ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-4 ega’ onic oom ack in 1954, David Ro en, a 20- ear-old American, left the U. . Air Force after a tour of

dut in Tok o. Ro en had noticed Japane e citizen needed man photograph for ID card , ut that local photo tudio were low and expen ive. He formed Ro en nterpri e and went into the photo- ooth u ine , which wa a ig ucce . 1957, Ro en had e ta li hed a ucce ful, nationwide chain. At thi point, the Japane e econom wa ooming, o Ro en decided it wa time to get into another u ine —entertainment. A hi

vehicle, he cho e arcade game , which were unknown in Japan at the time. He picked up u ed game on the cheap from America and et up arcade in the ame Japane e department tore and theater that t picall hou ed hi photo ooth . Within a few ear , Ro en had 200 arcade nationwide. Hi onl competition came from another American- owned firm, ervice Game ( eGa), who e original u ine wa juke oxe and fruit machine .

the earl 1960 , the Japane e arcade market had caught up with the U. . market. The pro lem wa that game maker had run out of exciting new game to offer. Ro en decided that he would have to get into the u ine of de igning and manufacturing game , ut to do that he needed manufacturing facilitie . eGa manufactured it own game , o in 1965 Ro en approached the compan and ugge ted a merger. The re ult wa ega nterpri e , a Japane e compan with Ro en a it C O.

Ro en him elf de igned ega’ fir t game, Peri cope, in which the o jective wa to ink chain-mounted card oard hip firing torpedoe , repre ented line of colored light . Peri cope wa a ig ucce not onl in Japan, ut al o in the United tate and urope, and it allowed ega to uild up a re pecta le export u ine . Over the ear , the compan continued to inve t heavil in game development, alwa u ing the late t electronic technolog .

Gulf and We tern, a U. . conglomerate, acquired ega in 1969, with Ro en running the u idiar . In 1975, Gulf and We tern (G&W) took ega pu lic in the United tate , ut left ega Japan a a G&W u idiar . Ha ao Naka ama, a former ega di tri utor, wa drafted

a pre ident. In the earl 1980 , Naka ama pu hed G&W to inve t more in ega Japan o that the compan could enter the then- ooming home videogame market. When G&W refu ed, Naka ama ugge ted a management u out. G&W agreed and, in 1984, for the price of ju t $38 million, ega ecame a Japane e compan once more. ( ega’ Japane e revenue were around $700 million, ut now the compan wa arel profita le.)

ega wa caught off guard the huge ucce of Nintendo’ Famicom. Although it relea ed it own 8- it tem in 1986, the machine never commanded more than 5% of the Japane e market. Naka ama, however, wa not a out to give up. From ear in the arcade u ine , he under tood that great game drove ale . Neverthele , he al o under tood that more powerful technolog gave game developer the tool to develop more appealing game . Thi philo oph underla Naka ama’ deci ion to develop a 16- it game tem, Gene i .

ega took the de ign of it 16- it arcade machine and adapted it for Gene i . Compared to Nintendo’ 8- it machine, the 16- it machine featured an arra of uperior technological

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feature , including high-definition graphic and animation, a full pectrum of color , two independent, crolling ackground that created an impre ive depth of field, and near-CD qualit ound. The de ign trateg al o made it ea to port ega’ catalog of arcade hit to Gene i .

Gene i wa launched in Japan in 1989, and in the United tate in 1990. In the United tate , the machine wa priced at $199. The compan hoped that ale would e oo ted

the popularit of it arcade game , uch a the graphicall violent Altered ea t. ega al o licen ed other companie to develop game for the Gene i platform. In an effort to recruit licen ee , ega a ked for lower ro alt rate than Nintendo, and it gave licen ee the right to manufacture their own cartridge . Independent game developer were low to clim on oard, however, and the $200 price tag for the pla er held ack ale .

One of the fir t independent game developer to ign up with ega wa lectronic Art . ta li hed Trip Hawkin , lectronic Art had focu ed on de igning game for PC and

con equentl had mi ed the Nintendo 8- it era. Now Hawkin wa determined to get a pre ence in the home videogame market, and aligning hi compan with ega eemed to e the e t option. The Nintendo pla ing field wa alread crowded, and ega offered a far le re trictive licen ing deal than Nintendo. lectronic Art u equentl wrote everal popular game for Gene i , including John Madden Foot all and everal gor com at game .

Nintendo had not een ignoring the potential of it 16- it tem,, uper N , which wa read for market introduction in 1989—at the ame time a ega’ Gene i . Nintendo introduced uper N in Japan in 1990, where it quickl e ta li hed a trong market pre ence and eat ega’ Gene i . In the United tate , however, the compan decided to hold ack longer to reap the full enefit of the dominance it enjo ed with the 8- it N

tem. Yamauchi wa al o worried a out the lack of ackward compati ilit etween Nintendo’ 8- it and 16- it tem . (The compan had tried to make the 16- it tem o that it could pla 8- it game , ut concluded that the co t of doing o wa prohi itive.) The e concern ma have led the compan to dela market introduction until the 8- it market wa aturated.

Meanwhile, in the United tate , the ega andwagon wa eginning to gain momentum. One development that gave Gene i a pu h wa the introduction of a new ega game, onic the Hedgehog. Developed an independent team that wa contracted to ega, the game featured a cute hedgehog that impatientl tapped hi paw when the pla er took too long to act. Impatience wa onic’ central feature—he had place to go, and quickl . He zipped along, collecting ra ring when he could find them, efore rolling into a all and fl ing down lide with loop and underground tunnel . onic wa ega’ Mario.

In mid-1991, in an attempt to jump- tart low ale , Tom Kalin ke, head of ega’ American u idiar , decided to undle onic the Hedgehog with the game pla er. He al o reduced the price for the undled unit to $150 and relaunched the tem with an aggre ive adverti ing campaign aimed at teenager . The campaign wa uilt around the logan “Gene i doe what Nintendon’t.” The hift in trateg worked, and ale accelerated harpl .

ega’ ucce prompted Nintendo to launch it 16- it tem, uper N , at $200. However, ega now had a 2- ear head tart in game . the end of 1991, a out 125 game title were

availa le for Gene i , compared to 25 for uper N . In Ma 1992, Nintendo reduced the price of uper N to $150. At thi time, ega wa claiming a 63% hare of the 16- it market

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in the United tate , and Nintendo claimed a 60% hare. now, ega wa cool. It egan to take more chance with ma -media-defined moralit . When Acclaim ntertainment relea ed it lood Mortal Kom at game in eptem er 1992, the ega ver ion let pla er rip off head and tear out heart . Reflecting Nintendo’ image of their core market, it ver ion wa anitized. The ega ver ion out old Nintendo’ two to one. Therefore, the momentum continued to run in ega’ favor. Januar 1993, there were 320 title availa le for ega Gene i , and 130 for uper N . In earl 1994, independent e timate ugge ted that ega had 60% of the U. . market and Nintendo had 40%, figure Nintendo di puted.

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-5 3DO ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-5 3DO

Trip Hawkin , who e fir t ig ucce wa lectronic Art , founded 3DO in 1991. Hawkin ’ vi ion for 3DO wa to hift the home videogame u ine awa from the exi ting cartridge- a ed format and toward a CD-ROM- a ed platform. The original partner in 3DO were lectronic Art , Mat u hita, Time Warner, AT&T, and the venture-capital firm Kleiner Perkin . Collectivel the inve ted over $17 million in 3DO, making it the riche t tart-up in the hi tor of the home videogame indu tr . 3DO went pu lic in Ma 1993 at $15 per hare.

Octo er of that ear, the tock had ri en to $48 per hare, making 3DO worth $1 illion— not ad for a compan that had et to generate a ingle dollar in revenue .

The a e for 3DO’ $1- illion market cap were it patented computer tem architecture and a cop righted operating tem that allowed for much richer graphic and audio capa ilitie . The tem wa uilt around a 32- it, RI C microproce or and proprietar graphic proce or chip . In tead of a cartridge, the 3DO tem tored game on a CD-ROM that wa capa le of holding up to 600 mega te of content, harpl up from the 10 mega te of content found in the t pical game cartridge of the time. The lower acce time of a CD-ROM compared to a cartridge wa alleviated omewhat the u e of a dou le- peed CD-ROM drive.

The elief at 3DO—a elief apparentl hared man inve tor —wa that the uperior torage and graphic -proce ing capa ilitie of the 3DO tem would prove ver attractive to game developer , allowing them to e far more creative. In turn, etter game would attract cu tomer awa from Nintendo and ega. Developing game that u ed the capa ilitie of a CD-ROM tem altered the economic of game development. timate ugge ted that it would co t approximatel $2 million to produce a game for the 3DO

tem and could take a long a 24 month to develop. However, at $2 per di c, a CD-ROM co t u tantiall le to manufacture than a cartridge.

The centerpiece of 3DO’ trateg wa to licen e it hardware technolog for free. Game developer paid a ro alt of $3 per di c for acce to the 3DO operating code. Di c t picall retailed for $40 each.

Mat u hita introduced the fir t 3DO machine into the U. . market in Octo er 1993. Priced at $700, the machine wa old through electronic retailer that carried Pana onic high-end electronic product . ega’ Tom Kalin k noted, “It’ a no le effort. ome people will u 3DO, and the ’ll have a wonderful experience. It’ impre ive, ut it’ a niche. We’ve done the re earch. It doe not ecome a large market until ou go elow $500. At $300, it tart to get intere ting. We make no mone on hardware. It’ a cutthroat u ine . I hope Mat u hita under tand that.” CD-ROM di c for the 3DO machine retailed for around $75. The machine came undled with Cra h n urn, a high- peed, com at racing game. However, onl 18 3DO title were availa le the crucial Chri tma period, although report ugge ted that 150 title were under development.

ale of the hardware were low, reaching onl 30,000 Januar 1994. In the ame month, AT&T and an o oth announced that the would egin to manufacture the 3DO machine. In March, faced with continuing luggi h ale , 3DO announced that it would give

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hardware manufacturer two hare of 3DO tock for ever unit old at or elow a certain retail price. Mat u hita dropped the price of it machine to $500. A out the ame time, To hi a, LG, and am ung all announced that the would tart to produce 3DO machine .

June 1994, cumulative ale of 3DO machine in the United tate tood at 40,000 unit . Mat u hita announced plan to expand di tri ution e ond the current 3,500 outlet to include the to and ma -merchandi e channel . Hawkin and hi partner announced that the would inve t another $37 million in 3DO. Jul , there were 750 3DO oftware licen ee , ut onl 40 title were availa le for the format. De pite the e move , ale continued at a ver luggi h pace, and the uppl of new title tarted to dr up.

In eptem er 1996, 3DO announced that it would either ell it hardware tem u ine or move it into a joint venture. The compan announced that ome 150 people, one- third of the work force, would pro a l lo e their jo in the re tructuring. According to Hawkin , 3DO would now focu on developing oftware for online gaming. Hawkin tated that the Internet and Internet entertainment con tituted a huge opportunit for 3DO. The tock dropped $1.375, to $6.75.

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-6 on Pla tation ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-6 on Pla tation In Fall 1995, on entered the fra with the introduction of it Pla tation. Pla tation u ed a 32- it, RI C microproce or running at 33 MHz and u ing a dou le- peed CD-ROM drive. Pla tation co t an e timated $500 million to develop. The machine had actuall een under development ince 1991, when on decided that the home videogame indu tr

wa getting too ig to ignore. Initiall , on wa in an alliance with Nintendo to develop the machine. Nintendo walked awa from the alliance in 1992, however, after a di agreement over who owned the right to future CD-ROM game . on moved forward alone.

A con umer electronic giant with a po ition in the Holl wood movie u ine and the mu ic indu tr ( on owned Colum ia Picture and the Colum ia record la el), on elieved from the tart that it had acce to ignificant intellectual propert that could form

the a i of man popular game .

In 1991, on e ta li hed a divi ion in New York: on lectronic Pu li hing. The divi ion wa to erve a an um rella organization for on ’ multimedia offering . Headed Iceland native Olaf Olaf on, then ju t 28 ear old, thi organization ultimatel took the lead role in oth the market launch of Pla tation and in developing game title . In 1993, a part of thi effort, on purcha ed a well-re pected riti h game developer, P gno i . Fall 1995, thi unit had 20 game read to complement Pla tation: The Haldeman Diarie , Micke Mania (developed in colla oration with Di ne ), and Johnn Mnemonic, a ed on the William Gi on hort tor . To entice independent game developer uch a lectronic Art , Namco, and Acclaim ntertainment, Olaf on u ed the promi e of low ro alt rate . The tandard ro alt rate wa et at $9 per di c, although developer that igned on earl enough were given a lower ro alt rate. on al o provided approximatel 4,000 game development tool to licen ee in an effort to help them peed game to market.

To di tri ute Pla tation, on et up a retail channel eparate from on ’ con umer electronic ale force. It marketed the Pla tation a a hip, powerful alternative to the outdated Nintendo and ega cartridge- a ed tem . on worked clo el with retailer efore the launch to determine how it could help them ell the Pla tation. To jump- tart

demand, on et up in- tore di pla to allow potential con umer to tr the equipment. Ju t efore the launch, on had lined up an impre ive 12,000 retail outlet in the United tate .

on targeted it adverti ing for Pla tation at male in the 18 to 35 age range. The targeting wa evident in the content of man game . One ig hit for Pla tation wa Tom Raider, who e central character, Lara Croft, com ined ex appeal and avv and helped to recruit an older generation to Pla tation. Pla tation wa initiall priced at $299, and game retailed for a much a $60. on ’ Tok o- a ed executive had reportedl een in i ting on a $350–$400 price for Pla tation, ut Olaf on pu hed hard for the lower price. ecau e of the fallout from thi internal attle, in Januar 1996, Olaf on re igned from on . then, however, on wa following Olaf on’ cript.

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on ’ prelaunch work wa rewarded with trong earl ale . Januar 1996, more than 800,000 Pla tation had een old in the United tate , plu another 4 million game . In Ma 1996, with 1.2 million Pla tation hipped, on reduced the price of Pla tation to $199. ega re ponded with a imilar price cut for it aturn. The price on ome of on ’ initial game were al o reduced to $29.99. The weekend after the price cut , retailer reported that Pla tation ale were up etween 350 and 1,000% over the prior week.

The ale urge continued through 1996. the end of the ear, ale of Pla tation and a ociated oftware amounted to $1.3 illion, out of a total for U. . ale at $2.2 illion for all videogame hardware and oftware. In March 1997, on cut the price of Pla tation again, thi time to $149. It al o reduced it ugge ted retail price for game $10 to $49.99.

thi point, on had old 3.4 million unit of Pla tation in the United tate , compared to aturn’ 1.6 million unit . Worldwide, Pla tation had out old aturn 13 million to 7.8 million unit , and aturn ale were lowing. The momentum wa clearl running in on ’ favor, ut the compan now had a new challenge to deal with: Nintendo’ late t generation game machine, the N64.

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-7 Nintendo trike ack ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-7 Nintendo trike ack In Jul 1996, Nintendo launched Nintendo 64 (N64) in the Japane e market. Thi relea e wa followed a late Fall introduction in the United tate . N64 i a 64- it machine developed in conjunction with ilicon Graphic . Originall targeted for introduction a ear earlier, N64 had een under development ince 1993. The machine u ed a plug-in cartridge format rather than a CD-ROM drive. According to Nintendo, cartridge allow for fa ter acce time and are far more dura le than CD-ROM (an important con ideration with children).

The mo t triking feature of the N64 machine, however, wa it 3D graphic capa ilit . N64 provide full rounded figure that can turn on their heel and rotate through 180 degree . Advanced ra -tracing technique orrowed from militar imulator and engineering work tation added to the en e of reali m providing proper highlighting, reflection , and hadow .

N64 wa targeted at children and oung teenager . It wa priced at $200 and launched with ju t four game . De pite the lack of game , initial ale were ver trong. Indeed, 1997 turned out to e a anner ear for oth on and Nintendo. The overall U. . market wa trong, with ale of hardware and oftware com ined reaching a record $5.5 illion. timate ugge t that Pla tation accounted for 49% of machine and game value. N64

captured a 41% hare, leaving ega trailing adl with le than 10% of the market. During the ear, the average price for game machine had fallen to $150. ear-end there were 300 title availa le for Pla tation, compared to 40 for N64. Game for Pla tation retailed for $40, on average, compared to over $60 for N64.

late 1998, Pla tation wa widening it lead over N64. In the crucial North American market, Pla tation wa reported to e out elling N64 a two-to-one margin, although Nintendo retained a lead in the under-12 categor . At thi point, there were 115 game availa le for N64 ver u 431 for Pla tation. Worldwide, on had now old clo e to 55 million Pla tation . The ucce of Pla tation had a major impact on on ’ ottom line. In fi cal 1998, Pla tation u ine generated revenue of $5.5 illion for on , 10% of it worldwide revenue , ut accounted for $886 million, or 22.5%, of the compan ’ operating income.

Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-7 Nintendo trike ack ook Title: trategic Management: An Integrated Approach Theor & Ca e

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-8 The 128- it ra ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-8 The 128- it ra When Nintendo launched it 64- it machine in 1996, on and ega didn’t follow, preferring in tead to focu on the development of even more powerful 128- it machine .

ega wa the fir t to market a 128- it con ole, which it launched in Japan in late 1998 and in the United tate in late 1999. The Dreamca t came equipped with a 56-kilo it modem to allow for online gaming over the Internet. late 2000, ega had old around 6 million Dreamca t worldwide, accounting for a out 15% of con ole ale ince it launch. ega nurtured Dreamca t ale courting out ide oftware developer who helped develop new game , including Craz Taxi, Re ident vil, and Quake III Arena. The compan had a goal of hipping 10 million unit March 2001—a goal it never reached

De pite it po ition a fir t mover with a 128- it machine, and de pite olid technical review , late 2000 the compan wa truggling. ega wa handicapped fir t product hortage due to con traint on the uppl of component part , and then a lack of demand a con umer waited to ee whether on ’ 128- it offering, the much-anticipated Pla tation 2 (P 2), would e a more attractive machine. In eptem er 2000, ega re ponded to the impending U. . launch of on ’ P 2 cutting the price for it con ole from $199 to $149. In late Octo er, ega announced that, due to thi price cut, it would pro a l lo e over $200 million in the fi cal ear ending March 2001

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-8a on ’ Pla tation 2 ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-8a on ’ Pla tation 2

Pla tation 2 wa launched in Japan in mid-2000 and in the United tate at the end of Octo er 2000. Initiall priced at $299, Pla tation 2 wa a powerful machine. At it core wa a 300-megahertz graphic -proce ing chip that wa jointl developed with To hi a and con umed a out $1.3 illion in R&D. Referred to a the motion ngine proce or, the chip allowed the machine to di pla tunning graphic image previou l found onl on upercomputer . The chip made the Pla tation 2 the mo t powerful videogame machine et.

It wa de igned pla different CD and DVD format , a well a proprietar game title . A wa true with the original Pla tation, Pla tation 2 could pla audio CD . The tem wa al o compati le with the original Pla tation; an Pla tation title could e pla ed on the Pla tation 2. To help ju tif the initial price tag, the unit dou led a a DVD pla er with picture qualit a good a dedicated pla er . Pla tation 2 did not come equipped with a modem, ut it had networking capa ilitie , and a modem could e attached u ing one of two U port .

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-8 Nintendo GameCu e

ook Title: trategic Management: An Integrated Approach Theor & Ca e

Printed : uri Gurumurthi ( [email protected])

18-8 Nintendo GameCu e

Nintendo had garnered a olid po ition in the indu tr with it N64 machine focu ing on

it core demographic, 7- to 12- ear-old . In 1999, Nintendo took 33% of the hardware

market and 28% of the game market. Nintendo’ next-generation videogame machine,

GameCu e, packed a modem and a powerful, 400-megahertz, 128- it proce or made

I M into a compact cu e. GameCu e marked a hift awa from Nintendo’ traditional

approach of u ing proprietar cartridge to hold game oftware. In tead, oftware for the

new pla er came on 8-centimeter CD , which are maller than mu ic compact di k . The

di k held 1.5 giga te of data each—far greater torage capacit than the old game

cartridge . Pla er could control GameCu e u ing wirele controller .

Nintendo tried to make the GameCu e ea for developer to work with rather than

focu ing on raw peak performance. While developer no dou t appreciated thi , the

time GameCu e hit tore helve in late 2001, Pla tation 2 had een on the market for

eighteen month and oa ted a olid li rar of game . De pite it trong rand and

in tantl recognized intellectual propert , which included Donke Kong, uper Mario

rother , and the Pokemon character , Nintendo wa pla ing catch up to on . Moreover,

another new entrant into the indu tr —Micro oft—launched it 128- it offering at around

the ame time.

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ook Title: trategic Management: An Integrated Approach Theor & Ca e

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-8c Micro oft X ox

ook Title: trategic Management: An Integrated Approach Theor & Ca e

Printed : uri Gurumurthi ( [email protected])

18-8c Micro oft X ox

Micro oft wa fir t rumored to e developing a videogame con ole in late 1999. In March

2000, ill Gate made it official when he announced that Micro oft would enter the home

videogame market in fall 2001 with a con ole code named X ox. In term of heer

computing power, the 128- it X ox had the edge over competitor . X ox had a 733-

megahertz Pentium III proce or, a high-powered graphic chip from Nvidia Corp, a uilt-in

road and ca le modem to allow for online game pla ing and high- peed Internet

row ing, 64 mega te of memor , CD and DVD drive , and an internal hard di k drive.

The operating tem wa a tripped-down ver ion of Micro oft’ popular Window tem

optimized for graphic -proce ing capa ilitie . Micro oft claimed that ecau e the X ox

wa a ed on familiar PC technolog , it would e much ea ier for oftware developer to

write game for, and it would e relativel ea to convert game from the PC to run on the

X- ox.

Although Micro oft wa a new entrant to the videogame indu tr , it wa no tranger to

game . Micro oft had long participated in the PC gaming indu tr and wa one of the

large t pu li her of PC game , with hit uch a Micro oft Flight imulator and Age of

mpire I and II to it credit. ale of Micro oft’ PC game increa ed 50% annuall etween

1998 and 2001, and the compan controlled a out 10% of the PC game market in 2001.

Micro oft had al o offered online gaming for ome time, including it popular M N Gaming

Zone ite. tarted in 1996, 2001 the we ite had ecome the large t online PC gaming

hu on the Internet, with nearl 12 million u cri er pa ing $9.95 a month to pla

premium game uch a A heron’ Call or Fighter Ace. Nor wa Micro oft new to hardware;

it jo tick and game pad out old all other rand , and it had an important mou e

u ine .

To uild the X ox, Micro oft cho e Flextronic , a contract manufacturer that alread made

computer mice for Micro oft. Realizing that it would pro a l have to cut X ox price over

time, Micro oft guaranteed Flextronic a profit margin, effectivel agreeing to u idize

Flextronic if elling price fell elow a pecified amount. 2003, Micro oft wa thought to

e lo ing $100 on ever X ox old. To make that ack and turn a profit, Micro oft

reportedl had to ell etween ix and nine videogame per X ox.

Anal t peculated that Micro oft’ entr into the home videogame market wa a re pon e

to a potential threat from on . Micro oft wa worried that Internet-read con ole like

Pla tation 2 might take over man we - row ing function from the per onal computer.

ome in the compan de cri ed Internet-ena led videogame terminal a Trojan hor e in

the living room. In Micro oft’ calculation, it made en e to get in the market to tr to keep

on and other in check. With annual revenue in exce of $20 illion worldwide, the

huge home videogame market wa an important ource of potential growth for Micro oft.

till, moving awa from it core market, Micro oft wa taking a ig ri k, particularl

given the cale of inve tment required to develop the X- ox, reported to run a high a

$1.5 illion.

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-8d Mortal Com at: Micro oft ver u on ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-8d Mortal Com at: Micro oft ver u on

The launch of X ox and Game Cu e helped propel ale of videogame hardware and oftware to a record $9.4 illion in 2001, up from $6.58 illion in 2000. Although oth X ox and Nintendo initiall racked up trong ale , the momentum lowed ignificantl in 2002. Micro oft in particular, found it ver difficult to penetrate the Japane e market. eptem er 2002, on had old 11.2 million unit of P 2 in the United tate , ver u 2.2

million unit of X ox and 2.7 million unit of Nintendo’ game Cu e. Una le to hold onto market hare in the wake of the new competition, ega withdrew from the con ole market, announcing that henceforth it would focu on developing game for other platform .

In June 2002, on re ponded to the new entr cutting the price for P 2 from $299 to $199. Micro oft quickl followed, cutting the price for X ox from $299 to $199, while Nintendo cut it price from $299 to $149. A ear later, on cut price again, thi time to $179.Micro oft followed with a imilar price cut and, in March 2004, it took the lead, cutting X ox price to $149. on followed uit two month later.

Micro oft’ trateg , however, involved far more than ju t cutting price . In Novem er 2002, Micro oft announced that it would introduce a new ervice for gamer , X ox Live. For $50 a ear, X ox Live u cri er with road and connection would e a le to pla online ena led ver ion of X ox game with other online u cri er . To upport X ox Live, Micro oft inve ted ome $500 million in it own data center to ho t online game pla ing.

Online game pla ing wa clearl a trategic priorit from the out et. Unlike the P 2 and Game Cu e, X ox came with uilt-in road and capa ilit . The deci ion to make the X ox road and capa le had een made in 1999, when le than 5% of U. . home were linked to

the Internet with a road and connection. xplaining the deci ion to uild road and capa ilitie into the X ox at a time when rival lacked them, the head of X ox, Ja Allard, noted that “m attitude ha alwa een to et on the future, not again t it” While on ’ P 2 can e hooked up to the Internet via a road and connection, doing o require

purcha e of a pecial network adapter for $40.

mid-2003, X ox live had ome 500,000 u cri er , ver u 80,000 who had regi tered to pla Pla tation 2 game online. thi point in time, there were 28 online game for X ox, and 18 for P 2. Januar 2004, the comparative figure tood at 50 for Micro oft and 32 for on . mid-2004, X ox live reportedl had over 1 million u cri er , with on claiming a imilar num er of online pla er . In Ma 2004, Micro oft truck a deal with lectronic Art , the world’ large t video game pu li her, to ring A game , including it e t elling John Madden Foot all, to the X ox live platform. Until thi point, A had onl

produced live game for on ’ platform.

In pite of the e trategic move , late 2004, X ox wa till a di tant econd of P 2 in the videogame market, having old 14 million con ole again t on ’ 70 million (Nintendo had old 13 million Game Cu e con ole thi point). While on wa making good mone from the u ine , Micro oft wa regi tering ignificant lo e . In fi cal 2004, Micro oft’ home and entertainment divi ion, of which X ox i the major component, regi tered $2.45

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illion in revenue ut lo t $1.135 illion. wa of contra t, on ’ game divi ion had $7.5 illion of ale in fi cal 2004 and generated operating profit of $640 million.

Micro oft, however, indicated that it wa in the u ine for the long term. In late 2004, the compan got a oo t from the relea e of Halo 2, the equel to Halo, one of it e t elling game . A fir t-da ale for Halo 2 were tallied, executive at on had to e worried. Micro oft announced that Halo 2 had ale of $125 million in it fir t 24 hour on the market in the United tate and Canada, an indu tr record. The e figure repre ented ale of 2.38 million unit , and put Halo 2 firml on track to e one of the igge t video game ever, with a hot at urpa ing Nintendo’ uper Mario 64, which had old $308 million in the United tate ince it eptem er 1996 de ut. Moreover, the compan wa rumored to e ahead of on a much a a ear to ring the next-generation video game con ole to market. In late 2004, report ugge ted that X ox 2 would e on the market in time for the 2005 Chri tma ea on, pro a l a full ear ahead of on ’ Pla tation 3. on wa rumored to e running into technical pro lem a it tried to develop Pla tation 3.

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Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-9 The next Generation ook Title: trategic Management: An Integrated Approach Theor & Ca e

18-9 The next Generation A the attle etween P 2 and X ox drew to a clo e, it wa clear that clear that on wa the ig winner. From 2001 through Fall 2006, when Pla tation 3 (P 3) hit the market, on had old around 110 million P 2 con ole , ver u 25 million for Micro oft’ X ox and 21 million for Nintendo’ Game Cu e. on ’ advantage tran lated into a huge lead in num er of game old– ome 1.08 illion for P 2 mid-2006, ver u 200 million for the X ox. With the con ole companie reportedl making an average ro alt on third-part oftware of $8 per game old, the financial implication of on ’ lead with P 2 are o viou .

Indeed, in 2005, on ’ game divi ion contri uted to 6.24% of the compan ’ total revenue, ut 38% of operating profit. In contra t, Micro oft’ home and entertainment divi ion lo t $4 illion etween the launch of X ox, and mid-2006.

However, 2006, thi wa all hi tor . In Novem er 2005, Micro oft introduced it next- generation machine, X ox 360, eating on and Nintendo to the market a olid ear. The X ox 360 repre ented a ig technological advance over the original X ox. To deliver improved picture qualit , the X ox 360 could execute 500 million pol gon / ec–a four-fold increa e over the X ox. The main microproce or wa 13 time fa ter than the chip in the X ox. X ox 360 had 512 mega te of memor , an eight-fold increa e, and a 20giga te hard drive, 2.5 time igger than that found on the X ox. X ox 360 i , of cour e, ena led for a road and connection to the Internet.

The machine it elf wa made Flextronic and Wi tron, two contract manufacture (a third tarted production after launch). Priced at $299, X ox 360 wa old at a lo . The co t of making X ox 360 wa e timated to e a high a $500 at launch, falling to $350 late 2006. Micro oft’ goal wa to ultimatel reak even on ale of the hardware a manufacturing efficiencie drove down unit co t .

To eed the market with game , Micro oft took a num er of tep . Taking a page out of it Window u ine , Micro oft provided game developer with tool de igned to automate man of the ke oftware programming ta k and reduce development time and co t . The compan had al o expanded it own in-hou e game tudio , in part purcha ing everal independent game developer including ungie tudio , maker of Halo. Thi trateg ena led Micro oft to offer exclu ive content for the X ox 360, omething that third-part developer were reluctant to do.

With the co t of game development increa ing to etween $10 to $15 million for more complex game , and development time tretching out to etween 24 and 36 month , Micro oft al o had to provide an inducement to get third-part developer on oard. Although detail of ro alt term are kept private, it i elieved that Micro oft offered ver low ro alt rate , and perhap even zero ro altie , for a pecified period of time to game developer who committed earl to X ox 360. One of tho e to commit earl wa lectronic Art , the leading independent game development compan , which reportedl udgeted a much a $200 million to develop ome 25 ver ion of it e t elling game , uch a it port game , for X ox 360. Micro oft udgeted a imilar amount to develop game on it own.

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ome 18 game were availa le for the Novem er 2005 launch of X ox 360, and the end of 2006, thi figure had increa ed to around 160. Halo 3, which wa expected to e one of the igge t game for X ox 360, wa relea ed in eptem er 2007. xclu ive to the X ox 360, Halo 3 racked in fir t-da ale of $170 million, which wa an indu tr record. Grand Theft Auto 4, the mo t popular franchi e on P 2, wa al o launched imultaneou l for oth X ox 360 and P 3 in 2007–a major coup for Micro oft.

The initial launch of X ox 360 wa marred hortage of ke component , which limited the num er of machine that Micro oft could ring to market. Had on een on time with it launch of P 3, thi could have een a eriou error, ut in the event on dela ed it launch of P 3, fir t until pring of 2006, and then Novem er 2006. the time on launched P 3 in Novem er 2006, ome 6 million X ox 360 con ole had een old, and Micro oft wa predicting ale of 10 million the end of 2006.

A with X ox, Micro oft i pu hing X ox Live with X ox 360. The compan inve ted a much a $1 illion in Live from it inception. late 2006, Micro oft wa claiming that ome 60% of X ox 360 cu tomer had al o igned on for X ox Live, and that the ervice had 4 million u cri er . earl 2008, there were over 10 million u cri er . X ox Live allow gamer to pla again t each other online, and to download digital content from the X ox Live Marketplace. Looking forward, there i little dou t that Micro oft ee X ox Live a a critical element of it trateg , ena ling X ox owner to download an digital content– game , film, mu ic–onto their con ole , which could ecome the hu of a home digital entertainment tem.

The u ine model for X ox 360 depend upon the num er of game old per con ole, the percentage of con ole owner who ign up for X ox Live, ale of hardware acce orie (e.g., controller , an HD-DVD drive, wirele networking adapter), and the con ole it elf achieving reak even production co t . Report ugge t that Micro oft will reak even if each con ole owner u 6 to 7 game and 2 or 3 acce orie , and if ome 10 million ign on to X ox Live (Micro oft plit X ox Live revenue with game developer ). the end of 2006, it wa e timated that ome 33 million game had een old for X ox 360.

on finall introduced P 3 on Novem er 11 in Japan, and on Novem er 17 in the United tate . The dela in the launch of P 3 wa due to on ’ deci ion to undle a lu-ra drive

with P 3, and to pro lem developing the “cell” proce or that it at the core of the P 3. lu-ra i on ’ proprietar , high-definition DVD format. The compan i currentl locked

in a format war with To hi a, which i pu hing it rival HD-DVD format (which can e purcha ed a an acce or for the X ox 360). on ha argued that the com ination of it cell proce or and lu-Ra DVD drive will give P 3 a u tantial performance edge over X ox 360. While thi i true in a technical en e (the lu-ra di c have five time the torage capacit of the DVD di c for X ox 360), few reviewer have noticed much in the wa of difference from a game-pla ing per pective–perhap ecau e few game were initiall availa le that howed the true power of the P 3.

What i certain i that incorporating lu-ra drive in the P 3 ha ignificantl rai ed the co t of the machine. on i elling it tand-alone lu-ra drive for $999, which ugge t that the P 3, initiall priced at etween $500 and $600 depending upon configuration, i in a en e a u idized lu-ra pla er. hortage of lue diode , a critical component in high- definition DVD drive , al o limited uppl of the P 3 after it launch. Onl 93,000 P 3 pla er were availa le for the Japane e launch. At launch, there were ome 20 game availa le for the P 3. on al o announced it own Live offering to compete with X ox Live, and tated that it would e free to P 3 u er .

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Nintendo al o got ack in the fra . In Novem er 2006, it launched it own next-generation offering, Wii. When developing the Wii, Nintendo made a num er of intere ting trategic deci ion . Fir t, the decided not to compete with Micro oft and on on graphic - proce ing power. In tead of developing a high-powered machine crammed full of expen ive, cu tom- uilt component , the u ed off-the- helf component to a em le a much cheaper machine that could e old at a much lower price point (the initial price wa $250). While thi machine did not offer the graphic -proce ing capa ilitie of X ox 360 or P 3, the game were cheaper to develop, around $5 million each a oppo ed to a much a $20 million for the P 3. econd, Nintendo decided to target a new demographic, indifferent people who had no intere t in video game , a oppo ed to the tereot pical game pla er. Nintendo alread had ome evidence that thi market could e tapped, and that it wa extremel lucrative. In 2004, Nintendo had introduced a game for it handheld pla er, the D , that wa aimed not at it core 7- to 12- ear-old demographic, ut a much wider market. The game, rain Age, a ed on a rain training regime developed a Japane e neuro cienti t, wa a huge hit in Japan, with ale of more than 12 million unit . It made the D a hit in uch unlikel place a nur ing home . Third, rather than proce ing power, Nintendo decided to focu on developing a motion- en itive, wirele controller that could detect arm and hand motion and tran fer them to the creen. Thi ena led the development of interactive game , with pla er ph icall controlling the action on creen

moving their arm , whether winging an imaginar at, driving a go kart, or la hing a word through the air.

earl 2007, it wa clear that the Wii wa turning into a urpri e hit. The com ination of low price, innovative de ign, and a portfolio of recogniza le game a ed on Nintendo’ long-e ta li hed franchi e uch a Mario rother and Pokeman helped drive ale forward. Moreover, a planned, the Wii eemed to appeal to a road range of age group and to oth gender . oon, article appeared explaining how retirement home were u ing the Wii o that re ident could pla virtual a e all with their vi iting

grandchildren, and ale tated to accelerate.

2010, it wa clear that the Wii had een the major ucce tor of thi generation of gaming con ole . ince their re pective launche , the Wii had old 74.5 million unit , compared to 43.8 million for X ox 360 and 38.7 million of Pla tation 3. Nintendo al o had a trong lead in the popular handheld market, with 135 million unit old worldwide, compared to 60.5 million for the P P, on ’ handheld game pla er (Micro oft did not have a handheld pla er). On the other hand, a ke to the ucce of a con ole i the num er of game old per ox, and on thi mea ure X ox 360 had the e t performance. After each con ole had een on the market for 29 month , X ox had old 7.5 game per ox, compared to 6.5 for Pla tation and 6.2 for Nintendo. Octo er 2010, the ratio had ri en to around 9.0 game per ox for X ox 360 (the e figure are for the United tate onl ).

Total indu tr ale in the United tate peaked in 2008 at $22.11 illion, efore declining to $20.2 illion a the rece ion cut into demand (worldwide ale were $54 illion in 2008). De pite the rece ion, all three pla er in the market were profita le on an operating a i in 2009 and 2010. Worldwide ale are expected to exceed $60 illion in 2012. oth Micro oft and on had hot them elve in the foot with qualit pro lem and component hortage earl in the product c cle (Micro oft had to take a $1.05- illion write-off in 2007 for replacing poor-qualit con ole ), ut were now performing well. Micro oft i predicting that thi generation of con ole will la t a out 10 ear , making it the longe t generation ever.

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Looking forward, an num er of factor ma change the indu tr . In Novem er 2010, Micro oft relea ed it re pon e to Nintendo’ motion en or with a device known a Kinect. Kinect ma fundamentall alter the wa u er interact with digital content. Kinect com ine technologie uch a od movement detection, facial recognition, and voice recognition, to let gamer u e natural motion and voice to control game . The input device i a camera and depth en or mounted on top of the TV. In e ence, Kinect i a potentiall revolutionar tep forward in human-machine interface de ign that could have implication that go wa e ond videogame . To tart with, Micro oft will u e Kinect to go after the ca ual gamer that flocked to the Nintendo Wii ha . A alwa with a new game technolog , the ucce of Kinect will hinge cruciall upon the qualit of the game availa le. While it will take ome time until game utilize the full power of Kinect, the earl ale figure ode well for the device. etween launch and the tart of March 2011, Micro oft old over 10 million Kinect device , making it the fa te t- elling con umer electronic device of all time.

Online gaming continue to gain traction. X ox Live ha turned into a ig hit for Micro oft, and now ha ome 25 million u cri er who u e it for ever thing from pla ing multipla er game to treaming movie from Netflix and row ing Face ook. It i e timated that a out 50% of X ox Live u cri er are pa ing Gold Mem er u cri er . In fi cal 2009 (which ended June 30, 2010), Micro oft generated over $1.2 illion in revenue of X ox Live u cription and ervice . Thi eem to e a growth engine going forward. Micro oft ha announced the X ox Live will e full integrated into Window 8, the next ver ion of it Window operating tem now under development.

Intere tingl enough, the large t multipla er online game ha no connection with an of the con ole platform . Thi i World of Warcraft, the ma ive, multipla er, online game with 12 million pa ing u cri er and annual revenue in exce of $1.2 illion-- the e t elling game of all time.

Thi ca e i intended to e u ed a a a i for cla di cu ion rather than a an illu tration of either effective or ineffective handling of the ituation. Reprinted permi ion of Charle W. L. Hill.

Chapter 18: The Home Videogame Indu tr : The Fir t Four Decade : 18-9 The next Generation ook Title: trategic Management: An Integrated Approach Theor & Ca e