If aliens had invaded Earth during the summer of 1982, they would have encountered a strange new world-assuming they didn't get blasted by an army of joystick-wielding humans upon landing. This was the summer when 15-year-old Steve Juraszek of Mount Prospect, Illinois, became a legend by spending 16 hours, 34 minutes playing an arcade game called Defender on a single quarter. Meanwhile, in Washington, D.C., government workers obsessed with the likes of Asteroids and Star Castle confessed their video game addictions to reporters ("It's like a drug," said a Department of Agriculture worker). While male Homo sapiens obliterated mutants, women seemed to prefer navigating mazes, chomping obstacles in a frenzied state known as Pac Man fever (remember the song?). As the epidemic spread, doctors began treating repetitive-motion maladies like Space Invader wrist. Time, which documented the national obsession in a cover story, fretted over the 75,000 man-years wasted in front of video tubes annually.
Behind it all was Atari. From humble beginnings in the early 1970s, Atari rose to become the video game industry's brightest light, before hitting the skids in the early '80s. Its legacy lives on: The industry it created, now dominated by Sony's PlayStation, gathers revenue of $6.5 billion a year. Techno historians tout Atari as a key progenitor of our wired world. "If there wasn't an Atari, there wouldn't be an industry as we know it," says Keith Feinstein, founder of the Electronics Conservancy, a preservation group that's created video game exhibitions for science museums. "And without a video game revolution, there'd have been no reason for you to have a computer on your desktop, because in the early days, people really bought computers to play games."
The industry remains rich territory for students of business strategy. "Here you have an industry that was $3 billion in 1982 and dropped to $100 million in 1985," only to carom back up again, says Barry Nalebuff, a Yale professor who teaches video game cases to his MBA students. Since then, no fewer than three different companies have succeeded Atari as market leader. Atari's implosion belies the myth of the "first-mover advantage," and illustrates the difficulties facing a market leader when it comes to innovation.
Atari's inception is expertly recounted in Zap!: The Rise and Fall of Atari, by Scott Cohen. The tale begins with Nolan Bushnell, an engineer who was raised in Utah, moved to Silicon Valley, and began tinkering with electronic games. His first efforts in 1970 produced a simple space-war game; two years later Bushnell was optimistic enough to quit his day job and incorporate Atari, named after a term from the Japanese strategy game Go. Atari found its first product when Bushnell and some pals created Pong, a crude black-and-white arcade game. (Its simple directions-"Avoid missing ball for high score"-were designed so drunks would understand.) But compared with pinball, this was high-tech, and folks lined up to play.
As competitors jumped in with Pong-like arcade games, Atari grew, hiring young hippies to assemble machines while top managers went on pot-fueled retreats to dream up new games. One new hire, a young programmer named Steve Jobs, created a Pong variation called Breakout, in which players hit a ball to smash through a wall. (Jobs worked at Atari by day; at night he allegedly used pilfered Atari parts to create a new personal computer he called Apple.) By the mid-'70s Atari began selling a primitive version of Home Pong, which hooked up to TV sets. Soon after the 1975 launch, Atari was selling all the Home Pong units it could produce.
Bushnell longed to sell a more-sophisticated home-game system but lacked the cash. Venture capitalists weren't interested, so after a brief search, he sold Atari to Warner Communications, the movie and record company then run by mogul Steve Ross, for $28 million. With Warner's backing, Atari launched a new video system, which offered multiple games via plug-in cartridges. It quickly found itself in a dogfight with competing models from Coleco, RCA, and Fairchild. The huge sales expected that Christmas never materialized because the industry lacked a wildly popular game-a killer app in today's parlance. Most of the competitors went under; Atari was left standing but wobbling under the weight of unsold inventory.
The debacle created tensions between Bushnell and the newly installed Warner managers, who fired him. The company might have died then but for a Japanese arcade game called Space Invaders, which exploded onto the scene in 1979 and finally sent home-game sales soaring. Next came the smash Asteroids. Suddenly Atari was a hit, and video games were transforming society. "People didn't see as many movies, buy as many records, or see as many sporting events" writes Cohen. "They played video games instead."
By the early 1980s it had all fallen apart. What went wrong? It depends on whom you ask. Lots of folks-including Bushnell-blame the managers from Warner who replaced Atari's founders. "The subsequent management managed the hypergrowth but didn't really understand the concept of what the business was all about," Bushnell says. "Entertainment businesses are perishable, and without continual renewal of content technology, the business becomes moribund."
Experts say it's a management misstep that has forever plagued the industry because of the unique economics of the business. Game makers have access to two revenue streams: one from selling the hardware system, and another from selling the cartridges. Hardware, like Atari's original $200 system, requires loads of R&D money, making margins thin. The real profits are in the software, just as shaving companies make their money on the blades, not the handles. Atari's $40 cartridges, for instance, often carried a 300 percent markup.
Those economics create a dilemma. "Basically a company gets so invested in its platform that it cedes leadership of the next generation to whatever company is going to come along," says David Sheff, author of Game Over: How Nintendo Zapped an American Industry, Captured Your Dollars, and Enslaved Your Children. "It becomes so profitable to have the hot system of the moment that the leader is far less likely to be the innovator next time around." A category leader is understandably reluctant to spend millions to design a new offering that will make its highly profitable current product obsolete.
This phenomenon plays out in other industries, too. When Gillette was making millions selling razor blades for the SensorExcel, it took guts to plow the profits back into R&D for its next-generation Mach 3, which would kill off the SensorExcel. But companies that hesitate may suffer the fate of Atari. Bushnell says he could see trouble brewing at the time. When Atari introduced its home system in the late '70s, he says, "we believed it had a market life of two years at best-it was pretty crappy technology. Years later they were still selling the original system." Trouble was, customers weren't buying.
As Atari stumbled, Bushnell went on to found Chuck E. Cheese, the pizza-and-arcade-game enterprise, among other companies. Warner sold off Atari's arcade business to a Japanese company; its home-computer system struggled on through the '80s, before being sold to Hasbro Interactive in the 1990s. Last December a French company paid $100 million for Hasbro Interactive's licensing agreement, which governs Atari properties, along with classic names like Monopoly and Scrabble.
But what about Atari's first-mover advantage, the trendy notion that launched a thousand dot-coms? This mantra holds that being first to stake out a "space" is essential to success. Jim Collins, author of Built to Last, knocks down that fallacy. In a recent magazine article, he rattled off a long list of inventive companies left as roadkill, their space invaded by latecomers. VisiCalc, for instance, invented the spreadsheet, only to be displaced by Lotus and then Microsoft's Excel. Osborne created the first portable computers; today nobody remembers them. Why? Those concepts didn't have large enough barriers to entry to deter competitors from jumping in.
It's a lesson that doesn't end with Atari. By the mid-'80s, Nintendo had revived the video game market, helped by several new wrinkles on Atari's strategy. Unlike Atari, which had little control over which kind of games outside developers built for its system, Nintendo maintained a tight grip on licenses, keeping bad games off the market. "Atari was a victim of explosive growth followed by lack of quality," says Yale's Nalebuff. "People bought a couple of bad games and figured it wasn't worth it."
By 1990, Nintendo had a Microsoft-like grip on the industry: Its market share hovered near 95 percent. But even that dominance didn't ensure longevity. When the Sega Dreamcast arrived, Nintendo's market share dropped by half; a few years later, Sega was displaced by Sony's PlayStation. Although Feinstein, the video game historian, says the jury is still out on PlayStation 2, which was unveiled last fall, "no company has ever gone from one generation of [dominant] console to the next." With PlayStation 2, it looks like Sony may accomplish that, but it will soon face a wave of new competition, including Microsoft's vaunted X-box, which should arrive this fall.
Meanwhile, some see the video game paradigm playing out in other fields. Consider the hype over the Internet. "The misconception that a lot of people have is that you can take advantage of a trend by jumping on without understanding the audience or the technology," says Sheff, the Game Over author. In fast-changing industries, it's best to think of competitors as those wily Space Invaders, advancing mercilessly. You can hide and you can fire back. But onward they march. Innovate, or die.
