Spot On: Analysts react to EA-ESPN deal

Industry analysts are beginning to digest the news that Electronic Arts has signed an exclusive 15-year licensing deal with top sports network ESPN. While most of them agree the deal is a good one for EA, many have said that its effect on the rest of the game industry--and in particular Take-Two Interactive--could be problematic, to say the least.

The EA-ESPN deal takes effect in 2006. It follows a December announcement that EA has clinched an exclusive five-year deal with the National Football League and NFL Players Inc., a subsidiary of the NFL Players Association, for all NFL teams, stadiums, and player likenesses.

"We think this deal further strengthens EA's competitive position in sports," Mike Wallace, an analyst with UBS Investment Research, said in a report released today. Interestingly, he added that he thought the deal would help EA primarily "from a marketing standpoint."

Although Wallace acknowledged that the contract was bad news for Take-Two, which holds a license with the sports network through early 2006, he said, "We believe the loss of ESPN is not a significant one and not as bad as losing the NFL, as [Take-Two] will still be able to publish sports games without the ESPN brand. [Take-Two] could also sign its own deals with other leagues." In fact, The Wall Street Journal reported this week that Take-Two is negotiating to acquire exclusive game rights for Major League Baseball, but company officials declined to comment on the story.

According to a memo sent to the media and investors today by Boris Markovich, an analyst with TerraNova Institutional, ESPN-branded games sold poorly until 2004, when Take-Two aggressively cut prices on its ESPN titles. "We believe that Take-Two's pricing strategy, distribution, and marketing prowess were the main drivers to the ESPN products' strong performance over the past year," he said.

But Wallace said that very approach may be what led ESPN into EA's arms: "We think EA's brand and [Take-Two's] aggressive pricing on its sports games were reasons why ESPN chose EA for this license, but the main reason was probably because EA was willing to pay up for it." To Wallace's first point, fewer dollars at retail typically means fewer dollars in the licensor's pocket--and at least influences the amount a publisher such as Take-Two is willing and able to pay for use of a license.

Although neither EA nor ESPN has disclosed the exact sum involved in the deal, many analysts are referring to The Wall Street Journal's estimate of $850 million.

Despite the high price tag, the deal ultimately gives EA more financial security, according to David Cole, principal at research firm DFC Intelligence. "Look at EA's market valuation now," Cole told News.com yesterday. "You've got to support that, and that requires sustained, major growth. It's like the big dog you have to feed constantly."

Although Wallace and Markovich agreed that the deal was a winner for EA, they had different takes on how it might play out in the future. "It should help ease competition for EA against [Take-Two] in multiple sports categories, including football, basketball, baseball, hockey, and college basketball," Wallace said.

"While EA will not necessarily use the ESPN brand in future game titles, we expect extensive use of the ESPN license in-game," Markovich said. "Longer term, we expect EA to extend its sports portfolio into sports that ESPN has historically been strong in, like X Games, bass fishing, and poker."

Many of the analysts agree that the deal gives EA an unprecedented amount of clout in the sports-game market. "It's an absolute show of strength and a consolidation of power," William Lennan, a WR Hambrecht analyst, told The New York Times. "It's a slap. It's a slam dunk. Pick your sports metaphor. This makes it tougher for people already facing an uphill battle to compete."

Wedbush Morgan Securities analyst Michael Pachter reportedly said, "There's nothing illegal or unethical about what's EA's doing; it's just good business for them. They're making sure they have exclusive access to the best middleware out there and the best sports license out there...Microsoft did the same kind of things to improve its position." But Pachter sees the deal as one that demonstrates something else many are saying about the cash-rich publisher. "It's downright predatory," Pachter said, reflecting on the deal.

In the long term, Wallace sees this latest deal providing incentive for other leagues to seek out exclusives of their own. "We think the other sports leagues (NBA, MLB, NHL) may be exploring similar arrangements," he said today. Analyst PJ McNealy of American Technology Research put an almost comical spin on the news, heading one of his entries in his morning memo: "What's next? Hello, NBA?"

But McNealy went from humor to brass tacks, outlining one element of what may have motivated EA to complete the ESPN deal now: The news creates fodder to keep analysts, fund managers, and investors content with Electronic Arts as an investment vehicle. "The NFL and the ESPN deals also provide Electronic Arts (ERTS) with some likely needed ammunition heading into its December quarterly call, probably next Tuesday," McNealy said. "ERTS has maintained that its goal is to grow top line and bottom line through the console hardware transition, but possibly having declining revenue [year on year] in the busiest quarter (December) of the year is not helpful to that larger goal. Now, should ERTS come in at the lower end ($1.40 billion to $1.44 billion) of its $1.40 billion to $1.475 billion revenue goal for December, ERTS already has the storyline written: December 2004 does not matter any more because we have addressed the issues, signed up the NFL and ESPN, and are positioned in the long term for growth in sports."

Has the fat lady finally sung in the sports-game wars? Should all the other publishers pack it in and head for the showers? Opinions are mixed, but this week's news was one of the year's biggest wins--for Electronic Arts. Now, the industry girds for a string of earnings calls where executives at publicly traded companies--EA and others--will surely face a grilling from curious analysts.

The fat lady remains on call.