MMC sits down at the console: Gail Counsell on where the money goes, and why, as the inquiry into Japanese giants Nintendo and Sega begins

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The Independent Online
IMAGINE the film studio MGM had been forced to ask Sony's permission before it released Thelma and Louise for home viewing, on the grounds that the video would be played on Sony's video recorders. And then suppose that for the privilege of allowing its film to be issued for playing on its video recorder, Sony charged a licensing fee and insisted on being allowed - at a price - to manufacture the videos.

Imagine, too, that Sony disliked the ending of Thelma and Louise - claiming that it encouraged lawbreaking and might corrupt young minds - and insisted on changes before it was prepared to manufacture the videos.

Would such a situation be acceptable, either on competition or censorship grounds? Those are the sort of tortuous issues facing the Monopolies and Mergers Commission as it starts its investigation not of films but video games.

It seems the eye of Sir Bryan Carsberg, the Director-General of Fair Trading who last week asked the MMC to investigate the industry, was caught by the big difference in the price of video games in the US and the UK. Across the pond, games cost roughly the same in dollars as they do in sterling - a very poor comparative exchange rate for British buyers.

Yet, as the MMC sharpens its pencils, it would do well not to be overly distracted by international comparisons. As Richard Hyman of Verdict, the market researchers, argues, the retail market is very different in the US, whether for electrical products or food.

'In the US the biggest electrical retailers are discounters,' he says. 'Their philosophy is to be very, very price-competitive and to maximise volumes. The idea is to turn stock over as quickly as possible. That gives them very good returns on capital employed, but very low margins.'

In the US, retail margins can be in single figures compared with a gross figure in the UK likely to be about 40 per cent. On top of that, US prices usually exclude local sales taxes, while UK prices include VAT.

But if the retailer is partly to blame for the high UK price of computer games, that is at least an area where competitive forces appear to be starting to operate. As Mr Hyman points out, discounting has finally arrived in the UK, where for the first time we have a mounting surplus of retailing floor space. The resulting pressure is already beginning to nibble at retail margins. Moreover, the chances are that the MMC will strike down some of the devices used by computer game manufacturers to prevent 'parallel' imports of cheaper US games.

Yet most insiders in the video game industry argue the real anti- competitive flaw in the system - and the real reason for high game prices - is the monopoly, in effect, over the software produced for their machines established by the Japanese giants Sega and Nintendo.

The really big market for computer games is in the 'console' area - dedicated computer game playing machines such as the Game Boy, Genesis or Super NES - the market dominated by Sega and Nintendo.

Rather like razors and razor blades, the profit is generated by games rather than hardware - the latter is sold as cheaply as possible to maximise sales. Once a console has been bought, its owner becomes a captive audience for software produced for that machine. A game may have the same title, but will be produced in several versions, each machine specific.

Sega and Nintendo argue that for technical reasons - Sega has a copyright notice, Nintendo a security chip - no one can produce games to run on their machines without their permission.

The issue has never been tested in a UK court. Indeed, on the rare occasions individual game publishing companies have refused to accept the licensing system, the disagreement has ended with an out- of-court settlement at which the publishers have expressed satisfaction. Nevertheless, computer game publishing companies are generally small and easily frightened by the enormous costs involved in taking on the Japanese.

Moreover, the past few years have been boom ones for the industry as a whole. With fat profits to be made by knuckling under and accepting the system, few have wanted to upset the apple cart. Yet the effect is to keep computer game prices higher than they would otherwise be. Before anyone can produce a game that plays on a Sega or Nintendo console, they must become a 'licensed' publisher and sign a licensing agreement with the Japanese company.

As part of the deal, the Japanese company almost inevitably manufactures the game. This is what gives Sega and Nintendo such a grip on the profits generated by computer games - and limiting competition, some would argue, forces up the price to the consumer.

For the cost of licensing/manufacturing - the two elements are apparently rolled into one - is significantly greater than it would be using a Far Eastern manufacturer. So, for instance, a publisher would typically be charged about pounds 17 by Sega or Nintendo to manufacture a game that would sell in the shops for pounds 44.99.

On top of that pounds 17, the publisher would have had to pay duty and freight, taking the cost to about pounds 20. The publisher would then sell to the retailer at about pounds 23; with a typical retail mark-up of about 40 per cent, the game's cost rises to pounds 38.29. Add on VAT and the price rises to about pounds 44.99.

But, says one informed insider, a reliable Far Eastern producer would probably charge the publisher only pounds 8- pounds 10 for manufacturing the same game.

The Japanese companies argue the extra costs are to do with marketing and support that establish the market for their games machines. It will be interesting to see how they justify those costs to the MMC. Equally interesting will be its view on their grip over the manufacturing process, where the timing of publication can easily dictate which games win or lose.

At stake is not merely the price the consumer pays, but also freedom of choice. The approval process used by Sega and Nintendo goes beyond technical issues and involves questions of taste. Nintendo, for instance, bans religious symbols, blood and nudity from all games published for its consoles. That may be laudable censorship, but do we really want Japanese corporations deciding what we may see? As the machines grow more sophisticated, this game is far from over.

(Photographs omitted)