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February 2012 was no different for the video gaming industry as it continued to report detrimental sales figures on year-over-year basis. According to market research firm, The NPD Group, US sales for February 2012 was down 20.0% from the comparable previous year to $1.06 billion. The decline can be attributable to the lack of major titles being released by publishers. However, sales figures improved from $750.6 million recorded in January 2012.

Sales through digital downloads of full games and add-on content downloads, MMORPG games, social networking games, mobile games, rentals and subscriptions accounted for an additional $550 to $600 million.

Software sales were down 23.0% to $464.4 million from the previous-year period. Hardware sales also fared no better and were down 18.0% from the comparable previous year to $381.4 million. However, both Software ($355.9 million in Jan 2012) and Hardware ($199.5 million in Jan 2012) sales improved sequentially. Additionally, revenue from the sale of video game accessories was down 16.0 % to $215.2 million from the year-ago period.

Activision Blizzard Inc.’s (ATVI - Free Report) Call of Duty: Modern Warfare 3 held on to its position as the top selling video game for the fourth month in a row in February 2012. Square Enix Inc.’s Final Fantasy XIII-2 snatched the second position. UFC Undisputed 3 from THQ Inc. was third in line followed by Electronic Arts Inc.’s (EA - Free Report) much-awaited Kingdoms of Amalur: Reckoning in the fourth position. Ubisoft’s Just Dance 3 came in fifth in the list. EA’s Battlefield 3 seems to have lost its sheen and plummeted to the 10th spot from the fifth position it held in the preceding two months.

Now coming to the hardware segment, Microsoft Corp. (MSFT - Free Report) ’s Xbox 360 console system outsold Nintendo Co.’s Wii and hand-held 3DS. In February 2012, a total of 228,000 units and 262,000 units of Wii consoles and handheld 3DS consoles were sold, respectively. Microsoft sold 426,000 units of Xbox 360 and it was the top-selling gaming console. Incidentally, the launch of Sony Corp’s (SNE - Free Report) PlayStation Vita in late February failed to lift the hardware sales.

Despite the dismal figures in February, analysts tracking the video game industry believe that few big game launches from bellwether publishers could boost revenues in March. Some of the games that are to be launched in March are Nintendo’s Mario Party 9, Konami Corp.’s Silent Hill Downpour and Capcom’s Resident Evil: Operation Raccoon City. Incidentally EA’s much coveted Mass Effect 3 has already been released and the company said that it has shipped 3.5 million units of the game in the first week of its release.

We believe that the video game industry is undergoing a massive transition from physical to digital platform. Thus, the corresponding retail sales decline is not unexpected. Digital online games, including used games, rentals, mobile games and social games, have gained tremendous popularity in recent times. We believe that publishing companies having an exposure to these segments would be able to gain a first mover advantage.

However, we also remain cautious about retail sales and believe that strong growth in the digital business will cannibalize the market going forward. According to one of the studies by Strategy Analytics, the global online games market is currently worth $4.0 billion and is expected to triple in the next five years.

Moreover, the overall video game market remains highly fragmented, graced by a large number of companies. This has increased competitive pressures, keeping prices down.

Despite competition and a lackluster macro outlook, we believe that companies with significant exposure to the digital business will stand out even in this sluggish market. Additionally, new game releases and improvement in consumer spending will act in favor of the industry.

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