Ex-insider is out to shake up video games

By Matt Richtel
The New York Times

Published: December 16, 2005, 9:45 AM PST

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When John Riccitiello was president of Electronic Arts, the world's biggest video game publisher, he was the ultimate industry insider. But now he and his new business partners are taking on the sector's giants.

Last year, Riccitiello joined Elevation Partners, a new venture capital firm in Silicon Valley, whose other partners include Fred Anderson, the former chief financial officer of Apple Computer, and Bono, U2's lead singer.

Elevation's first investments include a deal announced in November, valued at $300 million, to buy controlling interests in two independent video game studios: Pandemic Studios, based in Los Angeles, and Bioware, based in Edmonton, Alberta.

It is not unusual for venture capitalists to take stakes in video game companies. But this particular investment could lead a drive to reshape the industry by giving more control to the software engineers and designers who create games--potentially at the expense of the game publishers that market and distribute those games.

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Under the deal, Pandemic and Bioware will run their creative operations independently but will jointly undertake some business operations under the guidance of Riccitiello, who was president of EA from 1997 to 2004.

By having the two studios join forces, Elevation is hoping to gain better leverage in contract negotiations with major publishers, like Electronic Arts, Activision and THQ, which market games and get them into stores.

The leaders of the combined operating company, temporarily named VG Holdings, also hope to take the entity public, an unprecedented move for a game studio that does not double as a publisher.

In that respect, they are trying to emulate Pixar, the movie studio. Pixar is a public company that has retained its identity as a creative business that is not controlled by a single media conglomerate.

"We don't see why there can't be the same model in the video game industry," said Josh Resnick, 38, the president of Pandemic.

Michael Pachter, a Wall Street analyst focusing on the video game industry for Wedbush Morgan Securities, an investment banking firm, contends, however, that going public would be difficult.

"They don't have any chance of success," Pachter said, noting that Wall Street investors tend to prefer their video game makers to be part of a conglomerate.

"There's not an appetite to segment the different links in the value chain," Pachter continued. "The best evidence of that is that we have companies like Viacom, Disney and News Corp."

The potential for a public offering aside, Pachter said that Pandemic and Bioware--with Elevation's money and insights--could well succeed in driving a change in how the video game creators are compensated.

Historically, small bands of game designers formed studios that developed a handful of games each year. If the studios are fortunate, they enter partnerships with the major game publishers, which provide money to produce the games as well as market and distribute them.

The game industry is highly dependent on hits, and major titles can cost up to $20 million to develop. The publishers have to shoulder that financial risk, so it's not unusual for a distributor to take 75 percent of sales, after recouping its costs, Resnick noted. The focus on hits also makes publishers reluctant to back new titles and types of games when they can rely on sequels of best-selling games with built-in audiences.

This dynamic means that the creative talent--the programmers, engineers and designers who make games--tend to have relatively little control or reward, particularly compared with creative talent in the movie business.

"The talent is not getting anywhere what they should," Resnick said of the video game industry. "We're the film industry in the 1920s."

To be sure, Pandemic and Bioware are far from struggling financially. Since its founding in 1998, Pandemic has sold more than 12 million copies of games, and has had hit titles like the shooting games "Mercenaries," "Stars Wars Battlefront II" and "Destroy All Humans!" The company has 200 employees and is profitable.

Founded in 1995 by two emergency-room doctors, Bioware has 270 employees, and has sold around 13 million copies of its games, which include the popular "Star Wars: Knights of the Republic," and a Dungeons-and-Dragons-like game, "Balder's Gate." Bioware, too, is profitable. Both companies declined to say how big of a stake they have sold, or to provide figures for their annual revenue. But they said they should be entitled to a higher share of the profits, given the success of their games.

But Riccitiello of Elevation is careful to say he does not intend to be at odds with his employer or its industry peers.

Rather, he said, he expects to help Pandemic and Bioware with financing and business expertise to focus more on creating games and less on dealing with the mundane business operations.

For instance, under a combined roof, the studios would be in a better position to finance early game development on their own before they approach the big game publishers with their concepts. By assuming more of the initial risk, they could demand a bigger share of sales revenues, executives of the studios said. The joint operation may also help with marketing, which has traditionally been the publisher's role.

Riccitiello said the aim was to give game makers the creative control necessary to produce hits. The current situation is "leaving game companies frustrated, consumers frustrated and gamers frustrated," Riccitiello said.

Greg Zeschuk, a co-founder of Bioware, said the deal with Elevation would let his company spend more time making games and less worrying about deal-making.

"I really wouldn't characterize this as a power play" against the game publishers, he said. But, he added, "we will be better able to pick and choose what we want to do."

Entire contents, Copyright © 2005 The New York Times. All rights reserved.

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