Video games take a hit

Once thought impervious to downturn, electronic games feel some pain.

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By Jia Lynn Yang, writer

NEW YORK (Fortune) -- It took a while but video game sales might finally be feeling the effects of the slow economy. The industry that's often been hailed as recession-proof has posted some dismal sales numbers recently.

The last two months in a row, video game sales have gone down 17% compared to 2008, according to market research firm NPD Group. Even the Nintendo Wii juggernaut is slowing down; sales of consoles were only half where they were a year ago.

What's happening? It's a mix of factors. Observers point out that the video game industry is driven by blockbuster releases, and the last two months haven't offered much in the way of excitement for gamers. This time last year, big hits like "Grand Theft Auto IV," "Super Smash Bros. Brawl" and "Mario Kart Wii" had just been released. This year's highly anticipated releases are clustered around the fall. Those include the sequels "Assassin's Creed 2" and "Modern Warfare 2."

"The industry is very cyclical," says Jesse Divnich, an analyst for the video game research firm Electronic Entertainment Design & Resarch, adding that 45% of the industry's sales typically come in the fourth quarter. "Anytime before or after that pretty much depends on releases."

That said, even Nintendo is signaling concern over slowing Wii sales, saying operating profit may be 12 percent lower this year. Nintendo still sold 340,000 Wii players in April, which is more than Playstation and the Xbox 360 combined, but absolute Wii mania is surely over, at least for now.

Also cooling down some are the "Guitar Hero" and "Rock Band" products. Divnich points out retailers are now trying to get rid of some of their overstock and have been drastically discounting. For instance, Best Buy (BBY, Fortune 500) has been offering the Aerosmith version of "Guitar Hero" free along with any purchase of the Metallica edition.

All of this doesn't mean that retailers like GameStop (GME, Fortune 500) will suffer, though. Gamers who want to cut back can always buy used video games instead, and that's where GameStop is really making its money. "GameStop generates more gross profit dollars by selling a used game for $29.99 than a new one for $59.99," wrote analysts at FTN Equity Capital Markets Group in a recent report.

Another reason for optimism: the newest Nintendo DS did astoundingly well, selling over a million handhelds in April. That was a record for most consoles sold during the off-season.

The video game industry has been on a non-stop roll since 2006, and as recently as the 2008 holiday season, sales were still hitting records. Now though, it's hard to tell how much of the slowdown can be attributed to the economy and how much to less-exciting releases. "While consumers tell us that video games is one of the categories they're least likely to cut future spending on, you can't ignore economic conditions and the part that might be playing into the current industry results," wrote NPD Group analyst Anita Frazier in an e-mail.

Or this could just be the inevitable point at which the industry's spectacularly good run slows its pace. Industry watchers like to compare video games to movies though as a standby through tough times. "As consumers we're always willing to seek some entertainment," says Divnich. "And video games will always be there for that." To top of page

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