As far back as the middle of 2004, video game publisher Electronic Arts (NASDAQ:ERTS) was making moves to establish itself in China (and across Asia). It’s since developed a substantial presence with a regional headquarters in Hong Kong and studios in Shanghai, Japan, Singapore and Australia.
Yesterday, EA announced it was buying a 15% stake in Chinese video game company The9 Limited. The announcement is noteworthy, even if largely overshadowed by the more widely reported we’re-going-to-China news from private equity firm the Blackstone Group (which announced China’s national investment agency was making a $3b investment with them to buy a 10% non voting stake).
In the Electronic Arts deal, EA is paying $167m to gain its 15% share of The9 (Nasdaq: NCTY). EA will also give exclusive licensing rights to The9 for the distribution of EA’s multiplayer FIFA Online game in China. It’s a deal similar to one EA struck in South Korea with Neowiz in March (EA bought 19% for approximately $105m.)
China is a difficult market to understand and break into if you are aiming to sell products or services to Chinese consumers. (EBay, Yahoo and other companies have learned that the hard way). Not only are customer behaviors different (in gaming, for example, the market tends to favor multi–player online games -so called Massively Multiplayer Online Role-Playing Games (MMORPG) – much more than in the West), but there are also the Governmental and Regulatory bureaucracies to navigate. Simultaneously trying to learn and manage marketing, sales and political considerations is not an easy task.
The EA deal seems to mark a new type of strategy for wishful corporate suitors. Rather than trying to break in like an adventure traveler with a backpack, a visa and a sense of adventure, Western companies are increasingly trying a more measured “Tour-Guided” approach. They’re looking for partners who know the landscape and will guide them to the best places to visit. For EA, the FIFA Online license deal is likely the first of many steps on that walking tour. If it’s successful, I’d expect to see EA offer similar deals, or partnerships, on the release of other titles as well.
As far as the numbers go, China unquestionably presents a lucrative market opportunity. IDC has estimated there were 31m online gamers in China in 2006 and those gamers spent some 6.54b Yuan (approximately $855m at today’s exchange rate). Adjusting for fluctuations in exchange rates, a 20% share of that market would equal approximately $40m a quarter in revenue (For the March ’07 quarter, EA had gross revenues of $613m). Now licensing revenue alone from one game isn’t’ going yield a $40m payday, but it’s a start. And 15% stake in The9, a company with a billion dollar market cap, net margins above 30% (2006) and solid year to year growth isn’t a kick in the head either.
By working in tandem with local hosts that better understand the market, EA will increase its likelihood of success; something EA very much needs, considering, thus far, its Asian efforts have not lived up to expectations. As a consequence of this approach EA will give up some of the upside. But then as the cliché goes, a little bit of something is a lot better than a great big bit of nothing .
These deals (The9, Neowiz) could take months or years to provide any kind of bottom line improvement, but as far as long term strategy goes, EA seems to be setting out with a well structured plan for its growth in the region. The deals are also well timed to try and capitalize on the 2008 Olympics in Beijing and the 2010 FIFA World Cup being held in South Africa.
I wouldn’t jump to bet on Electronic Arts stock just yet, (if I was aiming for a piece of the Chinese gaming market, buying some of The9 Limited’s ADR’s would be easier. The9 seems to be pretty good at bringing other developers games to China (World of Warcraft is a popular 3rd party title they also distribute in China)) but EA’s efforts are worth putting them on a watch list… With the return of former COO and President John Riccitello (who left to co-found private equity firm Elevation Partners), and a seemingly well thought out strategy (at least in some parts of the globe) EA probably rates some where between a hold and a buy.