Nintendo: Let's Play "Survivor"

Amid an industry slump, the company is unleashing new gadgets--and simpler games

Hiroshi Yamauchi is a Japanese legend. As president of Nintendo Co., he pioneered the video-game industry in the early '80s, survived an onslaught from newcomers in the '90s, and ultimately transformed his Kyoto-based family business into a global leviathan. Along the way, Yamauchi, 73, developed a knack for calling game trends. Four years ago, as he watched Sony Corp. and Sega Corp. flood the market with hardware and software, he predicted a shakeout in the $18 billion video-game industry.

The slump is right on schedule. Sega recently pulled the plug on its Dreamcast console, while sales of game titles for Sony's year-old PlayStation 2 have failed to take off. Amid sliding sales, meanwhile, game developers are struggling with soaring production costs and lower margins. All this is happening as game makers gear up for the biggest battle for market share in the industry's volatile 20-year history. "A number of companies will be eliminated," says Yamauchi. "But Nintendo will survive."

To ensure that it does, Yamauchi is orchestrating a new product blitz in hardware. At the same time, he's mandating a back-to-basics strategy in its latest generation of games. Nintendo is moving away from the prevailing trend of increasingly complex games to what Yamauchi calls "simple and fun" entertainment--games that are both easy to play and cheaper for designers to write.

That's a big shift, according to Satoru Iwata, 41, a much-admired game creator who joined the company last year. He may well succeed Yamauchi when he retires, possibly in the next year. "People are tired of games that are complicated and full of graphics but offer little else," says Iwata, one of the architects of the new strategy. "We're proposing an antithesis."

The antithesis will be tested in Nintendo's upcoming new products. On Mar. 21, Nintendo unleashes on Japan Game Boy Advance, a handheld gadget that's already on the wish list of millions of children. Boasting a color liquid-crystal display 50% larger than the old Game Boy screen, the toy is powered by a 32-bit chip that allows four gamers to link up and play on one cartridge. The gadget is the successor to the most popular game device on the planet--the Game Boy, which has sold more than 110 million units since its 1989 launch.

EASY DOES IT. This summer or fall, Nintendo is expected to introduce its long-awaited 128-bit GameCube console. With these two platforms, the company believes it can keep a tight grip on the pre-teen market. "They're continuing to show they're the strongest game company in Japan, says Zachary Liggett, an industry analyst at WestLB Securities Pacific Ltd. in Tokyo. With the cost of shifting to two new game platforms, Nintendo expects operating profit in fiscal 2000 to decline 27%, to $867 million, on sales of $4.2 billion. Analysts expect a sharp rebound in 2001.

Nintendo is outperforming the industry, which is glutted with lackluster software titles. Annual console sales in Japan, the center of the game universe, have been flat, at $4 billion, for the past three years. Meanwhile, 2000 software sales probably declined 20% from $4.9 billion in 1999, according to analysts.

That's bad news for game designers, who are finding it increasingly expensive to write games for the new generation of machines. While it once cost from $800,000 to $1.7 million to develop a new game for Sony's original PlayStation, designers can now expect to invest $5 million to $10 million to write one for PS2.

With software sales declining, it has become increasingly difficult to make a profit. Small wonder that Nintendo is pushing simpler, easier-to-program products. "I tell developers not to make so many games because the costs are too high," says Yamauchi. "In one year, you're only going to see two or three big hits."

Apart from online games, the only growth sector in the industry right now is in handheld machines. This augurs well for Nintendo. In 1998, Game Boy accounted for about 12% of Japan's game-hardware sales. The following year, it had jumped to 20%.

CONNECTIONS. So promising is the Game Boy franchise that Nintendo is one of Japan's most popular stocks, outperforming the Nikkei by 50% in the past year. "This [mobile] console will become a huge cash cow," says Romain Poirot-Lellig, managing partner of Paris-based Interactive Finance, which operates a fund that invests in game stocks.

Nintendo's next challenge is to expand this franchise into an even more lucrative business. Under Iwata's guidance, engineers made the Game Boy Advance and GameCube compatible. The hope is that kids will want both--so they can play on the handheld while on the move, then upload the game-in-progress to the GameCube at home.

Another strategy is to offer innovations that will appeal to Nintendo's core customers, pre-teens. One inexpensive application turns Game Boy Advance into various musical instruments--teaching users to write songs and then jam together. This fall, Nintendo will market a "card-e" system. With it, players will be able to insert a bar-coded card bearing information on, say, their favorite Pokemon character.

Nintendo is also going wireless. Already it's possible to hook the existing Game Boy to a cell phone to access a Nintendo mobile Web site for information on the latest games. With the Game Boy Advance, users will connect to a mobile phone to download software upgrades and send and receive e-mail and other data. Nintendo is cooking up a variety of new applications, including a network service for the GameCube.

This may be an auspicious moment for Nintendo. While Microsoft Corp. is set to launch its much-hyped 128-bit Xbox later this year, the U.S. giant is untested in the game industry and, according to analysts, could lose $2 billion before breaking even in perhaps five years. Sega is drowning in red ink. As for Sony, its PlayStation 2 was plagued with production delays. Then sales of game software--where most of the profits lie--were disappointing. "They came out with tons of titles," says Lisa Spicer, industry analyst for ING Barings in Tokyo. "But quality didn't meet expectations."

Nintendo has a lot riding on its new vision. If it works, the company will retain its dominance of the pre-teen market, a sector that Sony and Microsoft yearn to acquire. That should pave the way for Yamauchi's retirement. Iwata seems a likely successor, and while Yamauchi says he hasn't made a choice, he notes that Iwata has the "natural-born talent." Toshiaki Suzuki, a Nintendo game designer, points out that Iwata embodies the "unusual combination" of talented game designer and hotshot manager. Much depends on how well the new hardware and games are received. If the strategy works, Iwata will get the job.

Clearly, it will take a special person to step into Yamauchi's shoes. The industry is itself much like a game, with hair-raising turns and dizzying ups and downs. Whoever takes over will need a gamer's instincts to play it right.

By Irene M. Kunii in Kyoto

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