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Retail Lifeline Seen In New Platforms

5/07/2001 02:00:00 AM Eastern

When it comes to revenue generation in the interactive entertainment industry, software speaks much louder than hardware.

As seen in the chart at right, by 2005, we project software growth will eclipse hardware growth by more than five times. We expect that although almost 30 million hardware units will be sold at retail five years from today, a staggering 175 million software units will change hands. That's only a conservative estimate, suggesting that the average kid will have at least five separate gaming software titles in his/her library by year-end half way through this decade.

The video game software market has always been the backbone of video game sales, and will be an even greater driver of sales over the next two years. This especially will be the case during the fourth quarter 2001, with the debut of Microsoft's X-Box. The X-Box is expected to be a bonanza for savvy retailers who can maximize its distribution potential.

Part of the reason for the hype and the hope is that the X-Box is expected to nearly double the processing power of its nearest two rivals, Sony and Nintendo. This development will arguably put the X-Box in a class by itself, at least until the next generation boxes from Sony and Nintendo are released.

Hardware game competitors don't aim to just improve upon their existing platform; rather, each game maker aims to "one-up" the latest, most sexy box on the market. This vicious cycle became an intolerable one for Sega, forcing the Japanese game developer to shelve its hardware program in favor of the more lucrative software business.

During the mid-1990s, multi-player online games were seen as only a niche movement comprised of hardcore gamers. This movement in turn developed new software for a completely new audience. The online game market brought a new distribution model to start-up game developers, who sidestepped the traditional model in order to sell their wares.

As we look back to the early development days of multi-player games, latency was one of the top limitations facing developers of twitch-and-shoot titles, or any game requiring fast processing speed. Today, the latency issue is still a concern, but is less of a problem for developers who have gone on to build faster, higher quality, and streamlined video games.

Another fascinating development is the emergence of digital set-top boxes, as they slowly become the "gateway" into the American home, helping to interface applications (e.g., PDAs, cellphones, and Web pads) to the main server or box.

In the United States, we're about another 12-18 months away from seeing a sizeable chunk of the market playing games over a satellite or cable set-top box. In the European market, especially in the United Kingdom, games over a set-top box have already arrived as a key attraction among subscribers.

With about an 18-month lead-time over the U.S., the U.K. is viewed as a good barometer of how successful games can be, and what business models can be used in the States.

The games played today in the U.K. aren't like the ones played on game consoles. Rather, the games on set-top boxes are slower, less graphic-intensive, and focus on entertainment like chess, mind teasers and crossword puzzles.

By our estimate, the combination of hardware and software revenues by 2005 should reach almost $13 billion, a huge chunk of which will go to consumer electronic retailers. Moreover, we project that 53.4 million U.S. TV households will have these units installed, representing a stunning 51 percent marketshare.

Jimmy Schaeffler is consumer electronics, media and telecom analyst at The Carmel Group (www.carmelgroup.com), a Carmel-by-the-Sea, Calif.-based publisher and consultancy specializing in telecommunications, computers and the media. He can be reached at jimmy@carmelgroup.com or by calling (831) 643-2222.

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