Smaug, the fire-breathing dragon in director Peter Jackson's Hobbit movies, is making the move to virtual reality.

Epic Games and Weta Digital, the visual-effects company Jackson co-founded in 1993, unveiled the 2-minute, 30-second demo on Wednesday at the Game Developers Conference in San Francisco.

The clip transforms a scene from The Hobbit: The Desolation of Smaug into a game-like sequence, showcasing the potential for virtual reality to create new forms of entertainment. Epic, which makes the Unreal Engine 4 game- development software, worked with Facebook-owned headset maker Oculus VR.

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"We're happy that an engine primarily built for gaming brings new forms of exploration and possibilities to traditional media companies," said Kim Libreri, Epic Games' chief technology officer. "The technology is now so sophisticated and so realistic that it can generate virtual worlds."

The clip re-creates a scene from The Hobbit: The Desolation of Smaug, the 2013 Warner Bros. release, in which Bilbo meets the dragon for the first time.

Smaug emerges from a pile of gold, stomping around as he hunts the hobbit Bilbo Baggins. Users are put in the shoes of Baggins and are free to duck, run and hide. Unreal Engine 4 was used to import models and scenery from The Hobbit into the virtual-reality game.

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Epic is using the clip to show off its software and get a jump on competitors as game-like projects get under way using new virtual-reality gear. Sony said on Tuesday that it plans to debut its virtual-reality headset by mid-2016. Google's Cardboard device is on the market, and Oculus VR is being sold as a development kit. Valve, Razer, Samsung Electronics and others also plan to make devices.

The virtual-reality market is forecast to reach $6 billion in annual consumer spending by 2016, according to SuperData Research, which tracks the industry. At the Consumer Electronics Show in January, 21st Century Fox and Time Warner crafted 360-degree, 3-D view film clips. Weta Digital and Epic's project is more advanced and immersive than any of its predecessors, Libreri said.

"A lot of the pre-existing work has been static environments," Libreri said. "This demonstration has a full, living, breathing digital character while you position yourself to best interact with the character."

While no formal plans have been announced, Weta Digital plans to continue exploring virtual reality technology, said Alasdair Coull, the company's head of development.

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Watch: The Hobbit: The Desolation of Smaug

The second in a trilogy of films adapting the enduringly popular masterpiece The Hobbit, by J.R.R. Tolkien, "The Hobbit: The Desolation of Smaug" continues the adventure of the title character Bilbo Baggins (Martin Freeman) as he journeys with the Wizard Gandalf (Ian McKellen) and thirteen Dwarves, led by Thorin Oakenshield (Richard Armitage) on an epic quest to reclaim the lost Dwarf Kingdom of Erebor. Courtesy: Warner Bros

Weta Digital and Epic began the project in December, dedicating six people from each company. The cost of producing the clip was "minuscule" because Weta was able to reuse elements from the film, such as graphics and Benedict Cumberbatch's voiceover to create Smaug, Coull said.

The Desolation of Smaug was the second of three Hobbit movies made by Jackson. Together they serve as a prequel to Jackson's The Lord of the Rings, one of the biggest movie franchises of all time. Smaug collected $960.4 million in worldwide ticket sales, according to researcher Box Office Mojo.

- Bloomberg