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EA Leaps into Free Video Games

Electronic Arts aims to make money online through in-game ads and micro-transactions. Will the radical new business model fly?

Back in 2006, video game giant Electronic Arts (ERTS) faced a tough situation in South Korea, where rampant piracy was killing off retail sales of new titles. So the company experimented with a bold new business model, giving away free online access to its popular FIFA soccer game but charging customers for all sorts of so-called "micro-transactions," such as buying new clothes or performance-enhancing accessories for their avatars at an average of $1.60 a pop.

The results have been eye-opening. Over the last two years, the online version of the game has garnered EA $24 million in micro-transaction revenues in South Korea—some $1 million per month. That's almost twice what it earned in its peak year of retail sales in 2002.

On Jan. 21, at the Digital Life Design (DLD) technology conference in Munich, Germany, Electronic Arts revealed that it now plans to adopt the same approach worldwide with Battlefield Heroes, one of its most popular titles. The game will be available for free online in North America and Europe starting this summer, and other titles likely will follow. As in Korea, EA intends to make its money from micro-transactions and advertising inserted into the game.

New Revenue Stream

The new distribution model and pricing structure, a first for Europe and the U.S., is expected to supplement—not replace—retail sales. But according to Gerhard Florin, EA's executive vice-president and general manager of international publishing, it should produce a lucrative new source of revenue and broaden the company's audience to include people who don't play the games now. "I believe free-to-download is the way forward to widen the gaming industry," Florin told DLD attendees.

It's an experiment the rest of the gaming industry will be watching closely. The new tactic, which until now has been mainly limited to Asia, "will become a big business," predicts Michael Pachter, a gaming industry research analyst at Wedbush Morgan Securities, a U.S. brokerage. Indeed micro-transactions now account for about 50% of online game revenues in Asia, a market estimated to be between $3 billion and $4 billion.

Florin insists that retail sales are not going away any time soon. Hard-core gamers still want to buy games in stores and will sign up for online subscription services. But as in the music, film, and publishing industries, EA and other video game makers are being forced by the rise of the Internet to consider the radical notion of giving away their content for free online to attract a mass audience—and then make their money from ancillary merchandise and advertising.

"It is like giving every little girl a Barbie doll that is naked and hoping she will accessorize," says Wedbush Morgan analyst Pachter. "While you can still play with a naked Barbie, it is not as much fun as dressing her up." Pachter says he expects most gaming companies to follow EA's lead. Indeed, Paris-based Vivendi Games (VIV.PA) has already experimented with the model, through a title called Freestyle Street Basketball.

"Tamper-Proof, Pirate-Proof"

Free online distribution initially caught on in Asia as a way of protecting intellectual property. When EA launched its FIFA soccer game in conjunction with the 2002 World Cup, the title sold 250,000 copies in stores at around $50 each. But by the time of the 2006 World Cup four years later, an updated version sold only 10,000 copies because, Florin says, "you had eight times the number of people pirating games."

The beauty of EA's new business model, adds Pachter, is that it's a "tamper-proof, pirate-proof product." The game lives on servers in the network, not on an individual's PC, and the servers control the characters and keep track of each player's scoring history.

"It makes sense to take this model worldwide," says Eric Hippeau, a managing partner in the New York office of SoftBank Capital. SoftBank is an investor in Shanda Interactive Entertainment (SNDA), a leading Chinese online game company that raised $151.8 million when it listed on Nasdaq in 2004.

Pay and Win? Not So Simple

Like FIFA soccer, Battlefield Heroes, which was created by game developer DICE in Stockholm, Sweden, features a built-in matchmaking system to ensure that players of equal skill are paired together for fair play. Although it is possible to buy performance-enhancing capabilities for avatars, safeguards are built in to ensure that players cannot simply pay to win.

The idea is to build local social networking communities around games, as EA has done in South Korea. "If only the guys who pay the most win, the game is dead, so it has to be tuned very carefully so that the really good players are the ones who actually win," says Florin.

It will take time to develop such services for each market, Florin cautions. "We will build social communities, country by country." The free-to-download version of Battlefield Heroes will become available beginning this summer. The U.S., Britain, Germany, and France are among the countries where the game will be introduced first, though a precise timetable for each country has not been announced.

Gamer's Choice: Retail or Online

If EA is correct, free-to-play games may appeal to consumers put off by the online subscription model popularized by the hit game World of Warcraft, from Vivendi's Blizzard Entertainment unit. While hard-core gamers don't mind paying a monthly subscription fee, Florin argues, most casual gamers do. And not all home PCs can handle the rich graphics in games like Battlefield Heroes, so the free-to-play version launching this summer will be less complex. It will also be more cartoon-like and easier to download.

EA's premise that retail sales to hard-core gamers won't go away was apparently borne out by the reaction of one of the DLD conference speakers. Tom Varsavsky, the 13-year-old son of serial tech entrepreneur Martin Varsavsky, was asked to speak at the conference because of his expertise on gaming. The teenager admitted that he had to swear off World of Warcraft because he was playing it up to five hours a day.

The younger Varsavsky concedes that free-to-play may attract new users. But he still plans to buy games in stores. After all, he notes, if customers buy all the accessories online, they may end up paying more than if they had bought the boxed game in a store. Still, EA is figuring that for every young Varsavsky out there, there could be dozens of others who'd rather approach their games one bite at a time.

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