When it comes to sports video games, Electronic Arts ( ERTS) rules. But some analysts see Take-Two Interactive ( TTWO) becoming a serious challenger to the throne.

That's because Take-Two is using cut-rate prices to take on EA -- a plan that has boosted sales of its ESPN NFL 2K5 game, which Take-Two co-publishes with Sega. Analysts fret that EA will have to resort to discounting prices on its own sports games -- or risk losing sales to Take-Two.

"I don't think EA is accustomed to competing on price. I think they're really confused as to what to do," said Michael Pachter, who covers the video-game industry for Wedbush Morgan. But "if EA doesn't cut their prices, they're going to have real trouble," Pachter added, projecting that the video-game giant could lose up to $40 million in sales to Take-Two this holiday season -- about 2.5% of EA's expected December quarter revenue.

(Wedbush Morgan hasn't done investment banking with EA or Take-Two, and Pachter doesn't hold either stock.)

At first glance, the latest sales data seem to reinforce EA's dominant position. The company's Madden NFL 2005 game was the bestselling title in August across all platforms, according to a recent report from NPD Group. And a special collector's edition of Madden and the company's NCAA Football 2005 were Nos. 2 and 5 in sales across all platforms.

Using NPD data, Pachter estimated that unit sales of Madden were up 14% from a year ago.

That's a healthy number, to be sure. But console sales grew at a considerably faster clip over the last year, noted P.J. McNealy, who covers the video-game software industry for American Technology Research. For instance, the number of people who own a PlayStation 2 is up 30% from last year, McNealy said.

NPD's data also indicate that Madden's market share is down considerably from last year, especially in terms of units. Take-Two sold nearly 760,000 boxes of NFL 2K5 in August, according to NPD. Since the company released the title last month, NFL 2K5 has sold about 1.5 million units. In July and August of last year, all of Madden's competitors combined sold about 44,000 units.

"I think people have to readjust and understand that the sports market isn't 100% theirs," said Joe Spiegel, a fund manager and managing member of Dalek Capital. "There's a viable competitor out there with a product that's just as good, if not better." (Spiegel has no position in EA or Take-Two).

Take-Two, which signed its co-publishing deal with Sega on the ESPN titles in June, juiced sales of NFL 2K5 by cutting the price on the title. The company is offering its line of ESPN games, which include NFL football, NBA basketball and NHL hockey, at a retail price of $19.99. In contrast, EA's suggested retail price for Madden for PlayStation2 and Xbox is $49.95. And the company charged $59.95 for a special-edition version of Madden this year.

To some extent, consumers who bought NFL 2K5 simply may be bargain hunters who purchased Madden because it was on sale. "We believe the ESPN title is driving a more casual gaming customer into the sports genre, which is healthy for the overall market," Shawn Milne, an analyst with Friedman Billing Ramsey, wrote in a research note issued Tuesday. (Neither Take-Two nor EA are investment banking clients of Friedman Billings Ramsey, and Milne does not own shares in either company.)

Other analysts worry that NFL 2K5 will soon cut into EA's sales. Some consumers who have bought Take-Two's game might otherwise have waited until the football postseason to purchase Madden, when EA typically cuts the game's price.

The big problem for EA, however, may arrive during the holiday season when, analysts note, a large number of games are bought by parents. To them, according to Pachter, ESPN's brand name is probably as recognizable as John Madden's, if not more so. And at half the price of EA's game, it may be hard to pass up.

EA "clearly has a problem at Christmas," Pachter said.

That problem could be compounded if Take-Two's price-undercutting plan proves successful with other sports titles. During the holidays, EA sells about 1.5 million copies of Madden and another 1.5 million of other sports games, said Pachter. EA risks losing about one-third of those 3 million unit sales, or some $20 million to $40 million in revenue, he estimated.

Because Take-Two sells its titles at a much lower price point, it could see a windfall of some $8 million to $16 million in revenue if it lures customers from EA, he said.

Representatives from both companies didn't respond to requests for comment.

The football battle "could set a tone for the other sports franchises," said McNealy. "Watching the retail sales of Madden in November is going to be critical," he added. (American Technology Research doesn't have an investment banking arm and McNealy doesn't own shares of EA or Take-Two.)

Long term, EA also could take a hit. Take-Two partner Sega produced some high-quality sports games in the past, said Dalek's Spiegel, and already had access to the well-known ESPN brand. The problem was getting people to try them, he said. By cutting prices, they've managed to overcome that last hurdle.

Now that gamers are trying the ESPN games, Take-Two might very well be able to raise prices next year -- and still keep the bulk of its customers.

"This was the best strategy for competing in that space," Spiegel said. "Next year will be a real test."

EA already is responding to the challenge. The company has cut the opening price on its forthcoming NBA Live 2005 game by $10 to $39.95, analysts note. Some analysts expect EA to drop the price on its NHL 2005 game also (especially in light of the sport's lockout status) -- and to possibly cut its price on Madden in time for the holiday season.

But those cuts could pressure EA's revenue and its bottom line, analysts say. If EA sells 2 million copies of this year's NBA Live, for instance, it will have left $20 million on the table, noted McNealy.

That could translate into 5 cents a share on the company's bottom line, said Pachter.

Of course, not everyone is worried about Take-Two's challenge to EA. EA has been gaining market share in the sports genre over the past few years, fending off a number of competitors, said Jason Maxwell, who covers the video-game industry for TCW. Meanwhile, August sales figures indicate that both Madden and NFL 2K5 are doing well, he said.

"Everything else is conjecture," Maxwell said. Those analysts concerned that EA's going to lose sales due to Take-Two's strategy are "overstating the danger."

Meanwhile, some question how long Take-Two can offer its ESPN games at bargain-basement prices. In the company's just-completed fiscal third quarter, for instance, NFL 2K5 added $20.9 million to the company's revenue, helping it best the Street's sales expectations. But the title contributed little or nothing to the company's bottom line.

In addition, the major game publishers are battling for market share in preparation for the next generation of consoles, said Norm Conley, a portfolio manager for JAG Advisors and a contributor to TheStreet.com's sister site, RealMoney.com. The problem is they might be cutting prices just as their costs climb, as they begin to develop games for the new consoles.

"Over the long term, we question Take-Two's pricing strategy and wonder what share it can maintain, as it will likely move to higher price points on next-generation consoles," wrote Milne.

Even Conley thinks that EA will continue to meet Wall Street's expectations despite the ongoing price war. EA remains a "fabulous" company and a "master executer," he said.

Still, the pricing battle likely will take its toll on EA's shares and that of the entire industry for the near future, holding back any kind of growth in the company's price-to-earnings multiples, he said.

"It's hard to get an expanding multiple when you've got price competition hitting a big part of the software cycle," Conley said.

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