Electronic Arts Lands Body Blow

Electronic Arts' ESPN deal could knock Take-Two out of the sports video game market.
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When it comes to their fight over the sports portion of the videogame market,

Electronic Arts

(ERTS)

has given

Take-Two Interactive

(TTWO) - Get Report

part two of a one-two punch.

On Monday, EA announced that it has signed a 15-year deal with ESPN topublish titles using the sports media company's brand, programming andpersonalities. The deal follows a similar long-term, exclusive pact with theNational Football League that EA

signedlast month.

With the latest agreement, which takes effect in 2006, EA will displaceTake-Two as ESPN's partner -- and effectively knock out its smaller rival fromthe sports market, analysts say.

"The moral of the story is don't

mess with EA," said one hedge fundmanager, who asked not to be named.

Shares of EA were recently up $2.34, or 3.9%, to $62.18. Take-Two wasdown $1.20, or 3.4%, to $33.64.

Take-Two had the right idea to take on EA in the sports game market, butthe way it went about it -- by getting into a pricewar -- was a strategic blunder, added the fund manager, who doesn'thave a position in either stock.

"Basically what they did was woke a sleeping giant," the fund managersaid. "It's great if you make a big hit. But if the big kid on the block isgoing to come in and basically destroy you, it hurts your business."

In a statement, Take-Two said that it thinks it can continue to competewith EA, even without the ESPN or NFL licenses.

"The ESPN license was principally a branding tool and as such does nothave a meaningful impact on game play," Take-Two said. "We spent a greatdeal of time evaluating the potential of working with ESPN longer term. Inthe end we believe we can continue to publish great sports games by focusingour dollars and creativity on enhancing the gamers' experience."

Take-Two teamed up with

Sega

, which held the ESPN license, toco-publish a series of ESPN-branded sports titles this year. The companiescut into EA's formerly dominating position in the sports game market byemphasizing the quality of the games -- and their cut-rate prices. Take-Twoset a retail price for the ESPN games of about $20 a title -- or less thanhalf the price of EA's comparable games.

In terms of gaining market share, the strategy worked. Take-Two soldmore than 2 million copies of its

ESPN NFL 2005

title alone, eventhough it was competing against EA's flagship sports title,

Madden NFL2005

. The previous year, all the

Madden

competitors together soldfewer than 1 million copies.

Although the strategy brought extra revenue to Take-Two, it meant littleon the company's bottom line, because the company was basically selling themat cost. But many analysts had expected the company to raise prices thisyear, now that it had gotten gamers to try out its sports titles.

The sports game strategy was part of a larger effort by Take-Two tobroaden its lineup of titles. Although the company's

Grand Theft Auto

franchise is a blockbuster, and it has a couple of minor hits in its

Manhunt

and

Max Payne

franchises, Take-Two has had littlesuccess diversifying beyond such adult-themed, violent games.

But by attempting to horn in on the sports game market, Take-Two wascutting into one of EA's most important businesses.

Madden

, forinstance, has consistently been one of the company's top five titles.Overall, the company gets about 45% of its revenue from its sports titles,according to Lehman Brothers' Israel Hernandez.

EA's immediate reaction to the threat from Take-Two was to offer

promotions on its sports titles and to

cut its own prices. But its latest moves havebeen much more strategic.

The deal with the NFL gives EA the exclusive right to develop and marketgames titles on the league's players and teams for console, PC and handheldgaming systems. The deal with ESPN gives EA similar rights for its content.The deals essentially mean that after 2006, Take-Two won't be able to offeran NFL football game, or to use the ESPN moniker on any of its sports games.

EA has not disclosed how much it paid for either deal, and following theagreement with the NFL, some analysts worried that the company might haveoverpaid.

But taken together, the deals likely mean that EA will be able to raiseits prices in the next couple of years without fear of competition.

"While EA will likely see some price pressure in 2005, the EA sportsflank, we believe, is now secure as it enters the next console cycle," saidHernandez, in a note on Tuesday. (Lehman Brothers has not done recentinvestment banking business for either Take-Two or EA.)