BusinessWeek - Red Dead vs. Red Ink

Strauss Zelnick, the chairman of Take-Two Interactive (TTWO), sits in a soundproof room enjoying a moment of professional success and a cookie. The room is part of a lavish Take-Two installation at Electronic Entertainment Expo, aka E3, the annual video game conference that's held each June in Los Angeles.

You've got to spend money to make money, he explains between bites, referring to the elaborate setup outside, where an endless stream of conference-goers, mostly geeky guys in jeans, are posing for pictures with Tommy gun-toting Playmates hired to promote Take-Two's upcoming Mafia II game.

Just now, though, Zelnick has a product to celebrate, and it's better than good. Red Dead Redemption has become the industry's summer blockbuster. And it happened in large part because Zelnick stayed with a project that was overdue and over budget.

In the best case, Red Dead may be that wonderful phenomenon in the video game world, the "franchise" game that fuels a long cycle of sequels. With Red Dead, Zelnick also aims to prove that the Hollywood-style formula of producing epic games, coupled with budgets to match, still works at Take-Two Interactive. And Red Dead's success marks a turnaround for a game that was starting to look like gaming's Heaven's Gate, the too-long and too-late Michael Cimino western that helped break the back of United Artists in 1980.

In 10 of the last 13 quarters since Zelnick became chairman in 2007, the company has lost money. In 2008, Zelnick stunned Wall Street when he and the newly installed board rejected a $2 billion takeover bid by Electronic Arts (ERTS), then the largest independent video game publisher. Zelnick says the bid undervalued Take-Two. "It was a highly conditional tender offer," he adds, "and the conditions were never removed." Today, Take-Two's market value is around $700 million. The stock, trading at about $12 a share last November, goes for around $8 now.

Both Grand Theft Auto and Red Dead are the creations of the London-born brothers Sam and Dan Houser, who started work on Red Dead amid Take-Two's turmoil in 2005. Gamers might not know Hitchcock, Cimino, or even Tarantino, but they know the Houser brothers. The reclusive leaders of Rockstar Games create cinematic takes on American culture. Vice-President Sam, 38, looks like a rock star himself with shoulder-length hair, a scruffy beard, and sunglasses. Creative director Dan, 36, is the opposite, with a shaved head and a boyish appearance.

Some analysts blame Zelnick for being too accommodating of his enfants terribles at Rockstar. "There's no adult supervision over there," says Wedbush's Pachter, a frequent critic. "The Rockstar guys are able to do whatever they want. They should produce a couple of 90-rated games in three years instead of a single 95-rated [game] in six." (Ratings on metacritic, a website that aggregrates reviews, range from 0 to 100 and have become crucial to a title's success.)

Janco analyst Hickey estimates that Red Dead Redemption will break even at 4 million copies. Supporting the development of the next major epic is another matter. The gaming industry, as analyst Pachtel suggests, is moving toward less ambitious projects. With thinner wallets, even hard-core gamers are getting choosy. Facebook and other platforms are sapping available dollars, and hours, with more "casual" games selling for $1.99. Then there's the increasing payday that celebrity developers like the Housers command. In 2008 the Housers signed a new deal with Take-Two that, in addition to licensing rights, gives them a share of profits generated from each game they release. That deal expires in January 2012, and Take-Two likely will have to cough up even more to keep the Housers from bolting to a rival. Zelnick won't say whether he's already opened contract negotiations with the Housers, though even the possibility of their defection should be frightening. In 2003, when Electronic Arts, the maker of Madden NFL, saw its Medal of Honor development teams jump ship, sales of that franchise tumbled 40 percent. Those teams then produced the Call of Duty franchise, which has consistently outsold Medal of Honor since their departure. During E3, the industry buzzed with reports that Activision CEO Bobby Kotick had hosted the Housers in his box at a concert. Kotick and the Housers did not respond to requests for comment.

Thanks for the article. Sounds like Take Two is between a rock and a hard place. Its fascinating that what Activision did to Infinity Ward isn't scaring off high profile developers.