5 Things You Need to Know to Play Videogame Stocks

By Chris Morris,|Special to

When “Spider-Man 3” opened on May 4, 2007, it racked up $151 million in ticket sales over three days, setting a box office record. When “Halo 3” went on sale last September, it generated $170 million in sales in its first 24 hours.

Now “Grand Theft Auto IV” is making cash registers melt – with analysts forecasting first week sales of up to $400 million. (No one’s willing to predict the first day numbers, which are not yet available.) Ultimately, the game could be the biggest entertainment event of the year, something that’s making piquing investor interest in the video game space.

The gaming industry is more complicated than it might appear from the outside, however. Before you jump in, here are a few things to keep in mind:

Things are consolidating – and that period isn’t over

Electronic Arts’ $2 billion takeover offer for “Grand Theft Auto” publisher Take Two Interactive Software has been pretty well documented. Those talks follow last December’s merger of Activision with Vivendi Games, which formed Activision Blizzard, the world’s largest video game publisher.

While it’s unlikely we’ll see anything on a similar scale, there are smaller publishers that may be aggressively courted. UbiSoft, for instance, has been considered a target for years. And Midway Games has failed to make a significant dent in the industry, despite the millions of dollars Sumner Redstone has invested in the company.

Independent development studios, meanwhile, remain ripe targets for takeover. Typically privately held, these companies often find themselves the subject of a bidding war after they have a hit title or two – as publishers try to boost the talent pool of their in-house teams.

“I don’t think we’re at the end here,” said Colin Sebastian, Senior Vice President of Equity Research at Lazard Capital Markets. “I think we’ll see a few more.”

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The blast radius, meanwhile, is expanding

Limiting your focus to game publishers or game-specific retailers, such as GameStop could be a mistake. As video games attract new audiences, more companies are looking to get in on the action.

The latest is Blockbuster , which recently announced plans to expand its video game offerings, with more rental titles and letting customers buy games, hardware and accessories in its stores. The move could help position the company for the future as digital movie downloads become more popular.

Traditional media companies are expanding their focus in games as well. Time Warner recently invested another $119 million in SCi, which owns “Tomb Raider” publisher Eidos. The company also has bet heavily in online gaming with its GameTap division. And Disney , which has always shown an interest in video games, has expanded its publishing arm in the past few years.

“You’ve got new people coming in in droves,” said John Taylor, an analyst at Arcadia Research. “You’ve got a ton of potential advertising interest. So, basically, you’ve got users; you’ve got funders; and there are a lot of people looking at how to bring those together.”

Next Point ... It's Alive ... Alive ...

It’s growing faster than you think

The early part of the year is typically a strong period for software sales, as new console owners scramble to get the “must have” games for the systems they received during the holidays. This year, “Halo 3” gave sales an extra boost. Now, with “GTA” dominating the market, it should come as little surprise that this year is on track to be the industry’s most profitable.

Group of Securities

Lazard Capital Markets’ Sebastian has increased his growth forecast for the industry this year from 13 percent to 17 percent. He also thinks this generation could see a longer life cycle than the typical five-year peak of video game machines past.

“What may be interesting about this cycle is it may be longer than most cycles,” he said. “For publishers, that means there’s an extra year to milk the existing platform base, before they begin to program for the next [generation of consoles].”

A longer cycle could mean greater periods of profitability. An expected price cut from Sony, Microsoft and possibly Nintendo this year will boost the number of game machines in people’s homes, further boosting revenues for both publishers and retailers.

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Look beyond GTA

While “Grand Theft Auto IV” will likely be this year’s best selling title, there are some other big ones on the horizon that could move the software sales needle.

Electronic Arts is readying “Spore,” the latest game from the creator of “The Sims,” for this winter. And many analysts expect Activision Blizzard to release “Starcraft II,” created by the group behind the juggernaut “World of Warcraft,” by the end of the year. (It’s worth noting the company has not given an official release date for that game, though, and developers Blizzard are meticulous about polishing games before release.)

Other titles to keep an eye out for include “Metal Gear Solid 4” from Konami and Wii Fit from Nintendo, which has done well since its release in Japan.

Next Point ... Just Wannan Have Fun

Don’t overlook casual games

The time investment for powering through a major game is substantial. Casual games are actually played more often, since they let players get in and out after just a couple of minutes.

Major publishers are currently looking how best to exploit these, as they bring in a largely untapped audience. Electronic Arts has an entire division focused on casual games and owns the successful site. And THQ recently acquired a developer to beef up its casual game catalog.

The trick is getting people to pay. Free online games have been the norm for years, making it hard to charge people for them now. Advertising supported models are being tested, as well as games that include microtransactions (small cash transactions to give the player an enhanced experience).

It’s Nintendo who has really made strides in monitizing casual games, though. Wii owners typically look for shorter gaming experiences – and by tailoring its software in that direction, the company has found a way to get people to pay $60 for quick bursts of fun.