On some of the stops to Chicago, where time was given for leg stretching/smoking, Alex would take these opportunities to snap pictures.  This time was no different.  A short 5 minute stop was planned for Fort Madison, Iowa where the train will unload waste and restock on supplies.  Being right next to the almighty Mississippi, it was quite obvious where the photography activity was going to occur.  Alex runs on ahead, while I packed our laptops and headed out to join him.

The moment I stepped off the train and went behind the train, I knew something was wrong.  My instincts were screaming “DEFINITELY NOT A GOOD IDEA” … for the following reasons:

1. As such, it was not possible to determine if the train was ready to leave by observing other passengers.
2. The water flow from the Mississippi will drown out any sounds or notifications from the conductor.
3. The bank of the Mississippi was covered with various bushes and small trees, preventing any passengers on the train from notifying the conductor of our missing presence.

Of course, I ignored these reasons and proceeded to run through the trees and bushes and on to the bank of the Mississippi.  A few minutes later, I noticed something was moving behind the trees.  Realizing it was the train both Alex and I made a mad dash, but was too late.  It was only then, realization hit us that we were stranded in what appeared to be America’s smallest town with a railroad track, Fort Madison, Iowa (Wikipedia Link: http://en.wikipedia.org/wiki/Fort_Madison,_Iowa)

This is where the adventure begins and where PANIC sets in.  With only the following 3 things in my possession: phone, wallet, and laptop, what does one do … One contacts one’s friends and hope for the best.

1^st plan of action: Get to the next stop and catch up with the train at Galesburg, Illinois.  Plan failed when the train attendant informed us it takes an hour and 45 mins to reach Galesburg by car and only an hour and 10 mins by train.  FAIL.

2^nd plan of action: Get to the Burlington Airport and take a flight to Chicago.  Sam and Victor (Alan was busy and did not answer his phone) both informed us a plane was leaving for Chicago at 1 PM from Burlington.  Alex and I arrived at Burlington airport to find out there are no flights to Chicago, only to Kansas City.  It turns out, Sam and Victor were looking at Burlington, Vermont, NOT Burlington, Iowa. FAIL.

3^rd plan of action: Rent a car from AVIS and drive 4 hours to Chicago.  WIN.  Though there was something funny about the rented car … FAIL.

Anyway over all costs for a picture of the Mississippi River has been broken down neatly below:

• Taxi to Burlington Airport – $33
• AVIS Car Rental – $111
• Taxi to Union Station from Rental Drop off – $55

Total extra cost for our EPIC FAIL:  $199.  Getting to see the Illinois countryside, not worth $199, but it was very beautiful.

The suns peeks out at 5:00 AM in the morning, lighting up the dark shapes around the mountain side.  silhouette of trees and other objects start to become visible through the blackness.  As more minutes pass by, color starts to appear.  

BUT, I wish I could give a damn.  IT IS SO FREAKIN COLD … Seriously, this train operates each car as if it were freezers preserving packages of meat being transported to Chicago.  There is absolutely no reason for Amtrak to maintain a temperature of 50 degrees.  Walking down the aisle, I slowly realize Alex and I were the only 2 individuals that failed to bring any type of blanket.  (Note to thyself, purchase blanket from Target in Chicago for remaining part of the trip).  There was one forgiving factor, the seats are huge.

The progression of plants and scenery is amazing.  Initially, the background is covered with tall evergreens.  But it slowly changes to large bushes and small trees.  Bushes keep shrinking becoming small shrubs.  Shrubs eventually disappear being replaced by a sea of yellow grass.  And finally the sea of yellow turns brown, with a few small islands of yellow and green fighting for survival.  Pictures are available on Alex’s Camera, remember to obtain a few for own reference.

On a side note, I just finishing reading the press conference transcript President Obama held last night on 2/9/09.  It is definitely refreshing to realize America finally has someone who is capable of guiding the nation.  True, not all of the ideas presented last night were great or ones that might even work.  But coming from 8 years where words are jumbled, secrets are kept, and problems ignored … lets just say, this changing stance has started to restore lost confidence within the US Government.

The only part of the press conference, to put it bluntly, I agreed with the President 100% is his stance that something must be done.  When a person losses his/her primary channel of income, the person acts to remedy the situation.  When a business begins recording red ink, action is taken to resolve the issue.  When a state starts to see deficits, programs are cut and taxes are raised.  There is a problem, that is very evident.  The solution is not clear, but like Obama has said, doing nothing is not an option.  When has ignoring a problem or letting a problem play out EVER generate acceptable results.

But this was not a post to question or analyze the viewpoints and strategies presented during the press conference for dealing with our crisis.  Googling “Obama Press Conference Analysis” or “Obama Press Conference Opinion” would more than cover the deeper look into his overall message.

What I do want to mention is this.  President Obama has an unprecedent (much overused by now) oppurtunity to become one of the great Presidents this nation has seen or be regarded as the one that failed our nation.  During times of crisis, strong leadership is necessary to provide direction.  Charisma and clear vision is necessary to instill confidence.  He has more or less fulfilled those attributes, what is left is Execution.  I admit, my expectation level for him is much higher than other past Presidents.  Lets hope he delivers for America and executes the plan that has been outlined.

I believe the average estimate on both earnings and revenue is a bit too low.  The video game industry is the fastest growing segment within the entertainment business.  Last year, video games revenues were significantly higher than the box office and home video sales.  The streak continue, as the month of June recorded another stellar increase of 53% in total revenue.  Even economic woes, gas prices, and inflation have not stopped the spending spree for video games.  This trend is not expected to end and will continue in a sharp upwards trajectory as more great games and more consoles are sold in the next few years.

EA should definitely outperformed this quarter.  With an increased focus on next-gen consoles, the average price point of games sold to consumers should have significantly increased.  In Q1 2008, the previous generation consoles (PS2) and the PC made up a signification portion of the company’s revenue.  New games for the PS2 & PC sell at $39-$49 while older titles go for $19-29.  As more consumers migrate towards the newer consoles, the price point for new games increases to $49-59 and older games to $29-$39.  With sales of newer games increasing, EA is effectively recording an additional 20% increase in sales for every game sold.

Games wise for the consoles, EA had 2 major releases with Battlefield: Bad Company and UEFA Euro 2008.  Both games are expected to be a million unit seller by Q2.  EA also distributed Rock Band to the European region and a new Wii version for the Americas.  With the extremely high price point Rock Band commands, EA should be seeing once again significant growth in the top-line for their distribution division.  For PC Games, EA released several new expansion for the Sims and the highly awaited Mass Effect RPG game.  PC sales should see a spike in revenue from these new games, but because Mass Effect has already been released for X360, the spike should be relatively small.   Finally, EA released several well received games in Q3 and Q4 FY2008.  These games: Burnout Paradise, Army of Two, etc. continue to sell very well and will contribute greatly to both the top and bottom line.

EA’s other revenue streams continue to grow at an extraordinary pace.  Cell Phone games have contributed more to the top-line than Nintendo DS games in Q4 2008.  In-game advertising have begun to become more prevalent, and EA’s subscription service for Pogo.com is still signing on more and more customers.

Overall, all of EA’s business lines have performed very well in the past and this quarter should be no exception.  In terms of profits, cost control is one key area.  In the prior year, a large portion of the revenue came from licensed games or distribution contracts, services that command at most single digit margins.  This year began with a renewed focus on internally owned properties.  These internally owned properties have so far proven to be quite successful.  In addition, as the restructuring continues and one time costs are factored out, EA should be seeing a very profitable fiscal year.

For Q1, my revenue estimates are $809.96 Million and a $0.01 EPS.

For the most part, Yes, some publishers are having a huge amount of trouble with pirated games. Even though various technologies have been introduce to prevent pirating, for the most part these strategies are failures.

Then what is a successful strategy against pirates?

Here is where the real post begins. There is no successful strategy against pirates, unless the revenue comes from a service. Video games are essentially a manufactured product. Once the game has been created, it is copied to various discs and sold in retail stores/online. Because it is a product, it can be pirated. But the industry is transforming itself into a service, a service of connecting people. Something that is extremely difficult to pirate.

Over the past several year, the industry has been quite successful in transforming itself from a “product” to a “service”. With the advent of the internet, the change was inevitable. People want to enjoy and play games with other people. Instead of providing game aka product for people to play, the industry started to provide a interactive environment aka service where people interact with others. This transformation for the most was difficult to notice because most games are still bought upfront. People generally don’t consider something a service unless there is a recurring cost or direct interaction with other people. But in reality, video games had transformed into a service with an upfront fee of $50. The best example is StarCraft. Once the game has been bought, customers can go online and play against a variety of opponents for “free”.

This flat fee, unlimited play for the same game model is currently the most prevalent business model within the industry. But this is also slowly changing, to one where it is video games become a continuously evolving world with a subscription aka World of WarCraft.

This is one way of combating piracy, by providing a service instead of a product.

According to NPD, the Retail PC Gaming market in 2007 for the US was worth approximately $910.7 Million, a little under a billion (Link).  If we assume Cevat Yerli is correct about the 1:15 ratio of sales:priated games, then approximately $13.66 BILLION ($910.7 Million * 15) worth of PC games were pirated in the US alone.  That is a pretty remarkable figure.  Of course, this is the way the RIAA and MPAA performs their music and movie pirating analysis and eveyone knows HOW ACCURATE or even remotely accurate their numbers are.

In actuality, this number is very inflated and I would be surprised if the $13.66 BILLION can actually be translated to even $1 Billion worth of sales.  Here are a number of reasons why:

1.  The price of a pirated game is about $0-$5.  The price of a new PC Game on retail shelves is $50, and an older catalog PC Game usually runs on average $20.  The $13.66 Billion figure relating to piracy loss was calculated with the assumption all users who pirated the game would have purchased the same game if a pirated copy was not available.  I would disagree, the basic law of supply and demand does not support this assumption.  As price goes up for a good, demand falls.  Therefore, if there was no “pirated” AKA free copy available, then most “Pirates” would not have purchased the game in the first place.

2.  Another key assumption is PC games that have been pirated are new games or games freely available on the retail market.  I would disagree, most older PC Games are just not sold anymore within standard retail channels.  If the game was not incredibly popular (i.e Starcraft), only online locations such as ebay or craigslist would have a copy, and even then its not a guarantee.  Yes, purchasing from ebay and craigslists are options, but even those are filled with obstacles.  Can the good be trusted?  Would I received the product in working order?  Has the CD-Key been shared with the world, thereby preventing me from enjoying the game?  These are common questions most customers will ask.  In almost all cases, the pirated version of an old game is the easiest one to obtain and to test without having to put significant time, effort, and risk to searching for an older game.  One of the reasons PC Games are “Pirated” is due to the lack of avaliablity within the retail channels.  These games should not be counted as a pirated game, as the no sale would have occured in the first place since there was no product to purchase.

3.  When a Game is installed, some general/specific information about the computer where it is installed on, is communicated back to the “Mothership” aka home server.  Everytime the Game is run, it phones home for verification.  If verification fails, the game fails to load.  In the event a game is resold, traded or given away as a gift (after being played) and installed on a new machine, the information communicated back to the Mothership changes.  In some cases, the game can still be played.  In other cases, protection kicks in and disables the copy.  Even though the method of obtaining the game was completely legitimate, the game was prevented from being run because the specifications of the newer machine did not match the specifications on file with the home server.  These instances can be any scenario where a change in hardware occured, such as the game installed on a new machine or the machine received an upgrade (i.e. new graphics card) and as such resulted in new information being sent to the home server.

I am fairly certain the majority of such issues are resolved quickly and most customers are able to freely play their game after contacting customer service.  But is this how most publisher gather statistics on pirated games?  Based on installation attempts for different machines?  The validity of the 1:15 ratio is what I am calling into question.  Publishers and other companies within the industry have an incentive to inflat the real numbers surrounding the problem to help further cause in bring it down.  Most numbers reported should be taken with a grain of salt.

4.  The pirated PC Game is a superior product in terms of value.  This is a fact.  A pirated game is free and can be installed on any machine without restrictions.  It can be backed up multiple times and stored for future use.  In addition, it respects the computer as a personal device and as such does not send out “information” to the Mothership.  A fully legimated copy purchased in stores can only be installed on 2-5 computers, cannot be backed up and stored for future uses, and does not respect the privacy of the personal machine.  For all of those additional restrictions, a customer is being asked to pay $50.  Anyone who is given a choice AND has the funds to purchase a game will still pick the pirated copy over the legitmate one.  If the customer does not have the funds … refer to reason #1.

Those are just but a few of the reasons why PC Game piracy is NOT a $13.66 Billion.  There are of course lots of additional factors, i.e. without piracy, would the game have even sold copies to begin with, since piracy is a form of marketing, etc.  I would estimate the total loss of sales to the industry to be about $500 Million – $1 Billion.  Even if my estimate is underestimates the impact, I believe it is a much more reasonable estimate thnn the $13.66 Billion dollars that was implied.

On a side note, I agree PC Piracy is a problem, since for aspiring developers it literally breaks their ability to continue as independent game makers.  But fighting against something that is driven by market forces is never a good strategy.  Rather to win, a new value proposition has to be introduced, something pirate games cannot copy, but this will be a post for another day.

Double Top Chart Formation:

The Nasdaq rallied for about 3 months between the beginning of March to mid May. At the end of the rally, the chart peaked on May 19^th at 2551.47 and quickly drifted south thereafter, hitting a bottom on May 23^rd at 2430.36. The chart reversed and began to head back up peaking on June 5^th at 2549.94. After the formation of the 2^nd peak, an accelerated decline occurred, pushing the chart under the support line set by the May 23^rd bottom within a period of 5 days on June 11^th. A test of the newly formed resistance line occurred on June 13^th, but with minimal success. The Double Top chart formation was confirmed as the new found resistance test failed and it broke through the old support line with stronger than normal volume.

A – 2 peaks within a span of 3 weeks formed on May 19^th 2008 and June 6^th 2008. The first peak occurred at 2551.47 and the 2^nd peak topped at 2430.36.

B – A prior upward trading channel had formed from mid March to mid May ending on May 19^th, 2008, the first peak within the Double Top Chart formation.

C – After the formation of the 2^nd peak on June 6^th 2008, an accelerated decline causes the chart to quickly smash through the old support set by the trough on May 23^rd at 2430.36.

D & E – The lack of volume in the 1^st break resulted in an end to the downward trend. A test of the new support turned resistance line occurred with a small brief rally. On June 20^th, the Nasdaq broke through the old support line with a surge in volume, confirming the formation of the Double Top chart pattern.

I – The different between the highest peak at 2551.47 and the trough at 2430.36 is 121.11. As such, a price target of 2309.25 is set to be hit within the next few months.

In addition to the chart pattern, other technical indicators that spoke of a coming down trend are the following:

F – On June 6^th, the RSI index dropped below the 50 mark, indicating the relative strength of the chart has changed and an increase likelihood of decline.

G & H – The slow MACD line crossed the fast MACD line on May 20^th. The MACD continued to fall and finally broke the X-Axis on June 12^th.

Fundamentals (Long Term Outlook):

The largest sector within the Nasdaq is Technology at 25% followed by Financial at 24%, Consumer and Health Care at 16% a piece, and all others making up the difference. The market as a whole continues to suffer from the financial meltdown, and as such the pressure from Consumer and Financial stocks will continue to weigh heavily on the Nasdaq. Large banks still have not instilled a level of confidence within the investing population. More write downs are expected across the board from almost all financial institutions.

Oil prices continue to rally, hitting a new high yesterday at $140 a barrel. This continued charge will have a heavy impact on the consumer stocks within the Nasdaq, further pulling it lower. Oil might be seeing a reversal in trend as more and more people jump on the “bandwagon”. At some point in time, the inability to supply oil at a reasonable price will severely slow emerging and developed economies throughout the world. This will cause an excess supply of oil and a sharp drop in demand. If oil/energy/consumption conservation habits start to further ingrain themselves within the emerging economies and begin to become more prevalent in the developed world, oil should drop back to the double digits.

Technology stocks had a strong rally overall within the past few months, but with most companies largest customers being Financial Institutions, there might be weakness within this sector in the upcoming months. Even though international sales can be depended upon to stabilize earnings, I am seeing that information already discounted within the stock price itself. The unknown is how badly is financial sector going to affect the growth rate of these companies.

For the main meat of this article, the focus will be centralized on Video Games as a “RAVENOUS MARKET”.

Gamers = A person familiar with video games

Users = People who are unfamiliar with video games or do not play them on some consistent basis as measured by the market. (i.e. this means playing solitare, minesweeper, freecell, etc does not count).

The main reason for why the industry is in such a strong growth pattern is simply because the video game industry is currently in an “RAVENOUS MARKET”. A market where there is so much pent up demand, once released consumes almost all that is avaliable. This pent up demand for easily playable, enjoyable, and short video games has been building and building every since the introduction of computers. Users were introduced to digital entertainment from Solitare, Freecell and Tetris (the amazing tetris). Online flash games such as Zuma and Bejeweled pulled in even more users. But users wanted more, but not games like Final Fantasy, or CounterStrike, or WarCraft III. Users wanted something easy to learn, to enjoy, and to share with others. But how does someone make a game easy enough for simple users to enjoy and share.

The answer lies in the interface, the gamepad, the controller. Simple PC games (i.e. Solitare, FreeCell, Zuma, etc) easily succeeded because the “controller” was just a mouse. Users just point and clicked to play the game, it could not have been any easier. Once a game moves past the mouse and incorporate additional input keys, it became too difficult for most users to understand or enjoy. Even racing games that utilized only a spacebar and arrow keys saw limited success. But this concept was not easily understood and not fully played upon till the Nintendo DS.

Nintendo DS came out as a smash hit. It was very easy to learn because it operated almost like a mouse. You move and “click” (touch) to get a response. Users quickly picked up the gameplay because it made sense to them. They didnt have to hit A to open the door or B to cancel or hit Left + A to do something special. You touched certain places of the screen such as “exit” to cancel, the door to enter a room, or the head of the dog to pet it. This made sense for the users and it was what they wanted. Something easy to learn, something easy to enjoy, something easy to play.

This trend has continued with the Wii. A controller that looks like a remote and uses motion sensing. Users swing the remote like a baseball bat to hit a ball or like a tennis racket to hit tennis ball. Again, same formula, an easy interface with enjoyable gameplay.

How did Wall Street react? They called the Nintendo DS a disaster when introduced. They believed it would fail against the PSP. The Wii was a gimmick and the next generation console wars will be fought between XBox 360 and the PS3.

How did the market react? SImply put, this level of pent up demand, built up over a few DECADES, cannot be satisifed in a matter of months. The DS has sold out continuously for the past 5 holiday seasons since its release. The Nintendo Wii cannot be produced fast enough and has an average shelf life of 1 hour.

This is because the market/consumers/users have waited patiently (or impatiently) for something to satisifed their needs. Once a product, proven to meet the basic needs of these users, was introduced, the market responded. It absorbed everything. The interface was almost perfect for users who could only watch afar a few years back. Will this level of demand continue … probably not, as more and more companies tries to jump on board. But for now the market is still absorbing every DS produced and ever Wii built.

On a side note, it is worth mentioning that Wall Street is not completely wrong. The XBox 360 and the Sony PS3 is competing against each other … for 2nd place.

All over the internet … and blogs … and this … and that … the same message seems to be resonating. PC Gaming is dying, consoles are the new wave of the future. Sadly, I was one of those very same people whom were openly bashing the lack of success for PC Games in the past few years. But some time back, I decided to take a deeper look and try to really figure out why PC Gaming was dying. (OK the reason for this is because, I got tired of always defending PC Gaming … even today)

So my research began with the usual … NPD charts, graphs, and data. The conclusion, well simply put, “PC Gaming” has seen a plateau in sales for the past few years, ~$1 Billion worth of sales and unchanging. So only $1 Billion in sales for each of the previous years, and console sales are growing at double digits? It seems obvious to anyone who looked at this same data set, “PC Gaming” is dying.

I decided to look deeper into the numbers to figure out what part of the PC Gaming market is dying and what part is expanding. Thats when the light struck. NPD only reports on retail PC sales, because those are the only sales that are “trackable”. The following items are excluded from NPD sales reports:
1. Digital Downloads (Steam)
2. Micro Transactions (The Sims)
3. Advertising (Yahoo Games and other Flash Games)
4. MMO & Subscription based gaming (World of Warcraft)

PC Gaming is far from dying, it is thriving and growing, just in ways the market was unable to measure.

• Digital Downloads are set to surpass retail sales numbers for games sold (link).
• MMO & other subscription based gaming have become extremely profitable and still growing in leaps and bounds. World of Warcraft is leading this charge. Q1 2008 revenue alone was above $250 Million (link). (Note: Blizzard’s main revenue source 80-90% is World of Warcraft).
• Advertising is becoming the business model for many small flash game websites. According to this older website (link), there were over 217 Million unique users. That number should have grown by now.
• Micro Transactions are booming. The Sims and other games require small incremental purchases of items or other things to continue.

This is what the PC Gaming industry has evolved into. It has expanded into several new markets of advertising, downloads, micro transactions and subscriptions. But industry market research and metrics do not fully account for these new revenue streams. But these new streams of revenue cannot be ignored, Digital Downloads, Subscription based gaming, and advertising have proven to be multi-billion industries. Once the older retail sales are finally eclipsed, then the true nature of the industry will come to the forefront.

Video games have become a main form of entertainment. Besides the incredible $$$ value proposition, it provides something else. Something quite important in times where everything that could go wrong has gone wrong and more. An escape … most games allows users to escape from their current world. World of Warcraft, Grand Theft Auto IV, etc. are examples of such games that allow a user to become engross and forget about their current problems.

During the great depression, one of the few industries that thrived was the movie industry. People wanted to get away from the bleak world, from the problems, from this and from that. It was entertainment that helped them move on. From all of the Disney movies, (based on true stories ones) you see dying towns where people rush to football games to escape their bleak situation.

Video games having migrated from the outskirts are now one of the main players in the entertainment industry. The entertainment industry has always shown resilience during hard times, now is not an exception.

As Lehman Brothers has kindly shown us recently … the problems continue to persist within the economy … then what industry is one that should weather the storm nicely? You got that right Video Games.

*Of course the problem here is one would have to find a good company to invest. A rising tide lifts all ships … but some are just so full of holes they are drowning themselves. After a few more posts on macro econ and its effects on the industry I will jump into a detailed analysis of the Big players … Sony, Microsoft, Nintendo, Take 2, THQ, Activision, Electronic Arts, and Ubisoft … and some of the smaller players that I would deem relevant.