Atari sells itself to
Communications is the buyer -- and provider of backing for expansions
a small company invades a big market, success can be almost as hard to
cope with financially as failure. "It takes a lot of cash to build
a $20 million inventory for a three-month [Christmas] selling
season," reflects Nolan K. Bushnell, a 33-year-old computer shit
who turned an idea for a video ping-pong game into a company that almost
outgrew itself. Bushnell's company, Atari Inc., of Sunnyvale, California,
survived success by becoming as clever at playing financial games as at
designing electronics ones. And last month, chairman Bushnell made his
shrewdest move yet: He sold Atari -- which earned $3.5 million net on
sales of $39 million in the fiscal year ended last May – to Warner
Communications Inc., the cash-rich conglomerate. He thereby netted some
$15 million for himself and provided the financial backing for Atari to
grow even faster.
problem is a cash problem," says Emanuel Gerard, an executive
vice-president of Warner, which paid $28 million in cash and debt
securities for Atari, and money is not a problem for us." Even with
its cash nest egg of $250 million, though, Warner may be hard pressed to
finance all the growth Bushnell is aiming for. By pioneering the
coin-operated video game market and then developing a game attachment
for home TV sets, Atari grew tenfold in the last three years. But the
home video game is still in its infancy. By some industry estimates,
Atari could be in theory selling some 15 million units a year, with a
value of nearly $500 million, in three years' time. Caught short. On its
own, Atari could not hope to take full advantage of this opportunity,
and until Warner came along it faced the prospect of watching a replay
of its experience with "Pong," the first successful
coin-operated video game. Unable to meet the demand stimulated by Pong's
success, Atari watched licensees and competitors walk off with most of
the spoils. "We sold fewer games of the Pong type than anybody
else," Bushnell says, "because we didn't have the cash to
produce what the market demanded.
it was only through some ingenious financial bootstrapping that Atari
was able to share in the market at all. Just three years out of the
University of Utah, Bushnell founded Atari's forerunner, Syzygy Co., in
1971 with $250 from a savings account. To get some cash flow going while
he developed Pong, Bushnell first started leasing pinball machines from
other manufacturers. "You can finance them with virtually nothing
dawn," he explains, "and revenues in the first few months are
usually well above your monthly payments."
with a consulting sideline, the pinball machines brought in about $1,000
per month in positive cash flow, which Bushnell poured into research and
development. And a $50,000 line of credit on receivables from Wells
Fargo Bank's special industries group, which lends to high-technology
companies, gave Atari the wherewithal to start manufacturing.
managed to pay the bills by tracking inventories closely. "With
expensive parts, such as cabinets, we tried to get them out the same day
they came in," he says. "And we made sure that 75% of the cost
turned over in less than a week." Atari also took advantage of the
soaring demand for Pong by insisting on cash payments from distributors
instead of going along with the longer terms common in the coin-operated
game industry. Even though competitors quickly moved in, Atari was able
to rack up sales of $3.2 million in fiscal 1973.
next year, though, Bushnell learned the danger of betting a company on
just- one product. Pong sales were dropping, forcing Atari to count
heavily on a new race car game called Gran-Trak 10. But manufacturing
bugs stalled production of the machine long enough to inflict a loss of
$500,000 -- as much as the company had made the previous year. "We
cut the company back by almost half," Bushnell says, "but we
did it about three months later than we should have." As one result
of the mishap. Bushnell turned operations over to the president of a
subsidiary, Joseph F. Keenan. "He's a brilliant hard head,"
Bushnell says of Keenan. "Atari has made money in every quarter
since he tool over."
Capital. The loss also started Bushnell thinking about diversification.
"We looked at both electronic pinball machines and consumer
games," he says, "and the latter turned out to be ready
first." furthermore, Bushnell discovered, the consumer market would
require huge cash outlays because of its seasonal nature. That meant
increasing the capital base of the company to support the short-term
loans it would require. "We decided it was time to shore up the
company financially and groom it for the public market," he says.
The first step was to put together a venture capital syndicate with
backers from various parts of the country, a job taken on by Donald
Valentine, who heads the venture capital arms of Los Angeles-based
Capital Research & Management Corp.
the summer of 1975, Time Inc. and the California-based venture capital
Mayfield fund had each agreed to match the $600,000 that Capital
Research was putting into Atari, and toward the end of the year
Valentine landed an additional $300,000 from Boston's Fidelity Venture
Associates added to retained earnings of $2.5 million, the new money
gave the company a capital base of about $4.5 million, enough to back
bank lines totalling $10 million. Straining resources. Even the
enthusiastic Valentine, however, failed to appreciate the growth
potential in consumer games. It was far greater than Atari had bargained
-- or capitalized -- for. "The market got bigger quicker than I had
envisioned," he says. As 1976 began, Bushnell and Valentine -- now
on Atari's board -- began a frantic search for additional capital. But
early optimism in discussions with potential underwriters faded along
with the rally in the stock market. "They weren't so much pushing
the price down as wondering whether an offering could be done at
all," Valentine says.
the manufacturing build-up for this year's Christmas season was under
way, and Atari was straining against its capital limitations. "We
decided that it might make sense to merge, Bushnell says, "so we
listed three companies with some synergies." One of the companies
on the list was Warner. Capital Research Vice-President Gordon Crawford
was acquainted with the company through Capital Research's mutual fund
holdings of Warner stock. Crawford approached Gerard, who responded
quickly and positively to the idea of acquiring Atari.
series of negotiations over the summer, Warner soon came to terms with
Bushnell and Valentine. The Atari negotiators were armed with a book of
scenarios prepared by Wells Fargo's corporate finance department, which
ran the company's prospects through a computer and came up with dozens
of possible price ranges, based on various assumptions about Atari's
growth and Warner’s aspirations. "The $28 million price is close
to our scenario II," says Wells Fargo Vice-President James M.
McTaggart. "That assumes an 18% annual return to Warner based on a
20% annual growth of earnings for Atari."