Monday, June 30, 2008

Huh?:Jeetil Patel and Wagner James Au Tribute Edition

I guess doom and gloom stories get more attention than happy stories. From personal experience, I can tell you, it is easier to write an angry rant than a happy smiley one. At least it is more fun. Maybe this is why Jeetil Patel and Wagner James Au decided to predict the end of the game business last week. Mr. Patel chooses not to recognize diversification, so he says game companies must eat each other to survive - "This would imply that publishers need to gain share cycle-to-cycle to achieve similar levels of profitability." Mr. Au's story rose to number 1 on gametab when he chose to compare a month's GTA IV sales to several years of San Andreas sales to tell us the market is just not what it used to be. Mr. Au is right, it was a much better world when Presto made The Journeyman Project for USD 175k and sold it direct for USD 99. It was even better when Jordan Mechner made Karateka for a negligible amount of money in his bedroom and Broderbund sold through 500k. Maybe we should listen to these guys and pack it all in. Or maybe, we should just look at the market and realize the business is finally going mainstream.  

I agree with one aspect of their argument, the business will not be the same going forward, and that will be good for all of us.

Gamedaily reports, Mr. Patel wrote:

"We continue to believe that, despite healthy industry growth, the interactive entertainment software industry remains structurally challenged as a doubling in development costs cycle-to-cycle (offset by 25% higher ASPs) is forcing publishers to produce ~40%-60% higher unit volumes per title to maintain breakeven profits (or prior-cycle profits) Patel said. "In other words, the unit threshold on comparable profits has materially moved higher cycle-to-cycle; however, industry fundamentals are clearly not helping as console software units are generally flat cycle-to-cycle. This would imply that publishers need to gain share cycle-to-cycle to achieve similar levels of profitability, particularly as flat software unit comparison are further hampered by share gains by Nintendo as a 1st-party publisher."
Mr. Au departs one stop later from the doom and gloom train. He feels GTA IV is the last of the tentpole games. Or as he says, “next-gen’s siren song.” He writes about the cost/return of the game and points out, quite convincingly, that one month’s sales fail to meet the bar set by years of San Andreas sales. He also says the games are more expensive, and therefore, with strong conviction, we will see a lot of less graphically intensive, watered down games for the masses. I can forgive Mr. Au for not having access to this magical crystal ball like thing I like to refer to as the Internet. It does get kind of costly with monthly fees and all, but he can pick up a game magazine and see there is a strong pipeline of the very games he says don’t exist. In fact, we can look forward to many of these games coming out over the next three years, and new ones are entering production on a regular basis. But once again, if I stop there, I can’t write any more, and I really want to say some more stuff about his horribly misguided post.

The two gentlemen are right about the costs, but wrong about everything else. More expensive titles mean the publishers must sell more to break even. This is common sense. The publishers knew this cycle was going to be more expensive, but no one knew how much more expensive. In case any readers have been asleep for the past few years, it is A LOT more expensive to develop for this generation - can we agree to stop calling the 360, Wii and PS3 next gen now? What Mr. Patel fails to consider, are the tie ratios for two of the three platforms are increasing over the previous cycles, and the number of skus has increased. The tie ratio for the first 30 months of the Xbox, PS2 and Gamecube were 6.8, 5.2 and 6.3, respectively. As of last Christmas, the tie ratios on 360, PS3 and Wii were 7.6, 8.11 and 5.04 respectively (I expect PS3 will be higher with the release of GTA IV and MGS 4). This is reflected in unit sales. According to NPD, there are more million plus sellers, than in the prior cycle. While the tie ratio will likely fall a bit, unit sales will increase with hockey stick growth portion of the console penetration cycle. The volume increase will occur just as the publishers start to take advantage of the technology bases they invested in at the beginning of the cycle, and surprise, surprise, production costs at the larger publishers will decline. This would be critical if it was the only source of publishing revenue. Fortunately, it is not.

Both gentlemen are relying on some key wrong assumptions to make their case. While my econ professors in college were able to build whole courses and theories on assumptions, they were wise enough to keep those assumptions within the confines of the classroom and scholarly papers no one reads. This gave them the benefit of hindsight, so if they were right, they could pull the out, and waive them over their heads, proudly shouting “I told you so!” If they were wrong, they left them hidden away to gather dust and be eaten by silverfish in the dark bowels of the library. Messrs Patel and Au choose the road of premature assumption presentation and fail remember the wise words of everyone’s mother, “when you assume, it makes and ass of u and me.” She also said you point three fingers at yourself when you point at someone, but we can talk about that one later.
The two men assume the revenue model is limited to those available during the last console generation. The last generation allowed for the release of two viable skus for each front line product. Once released, it had a short shelf life, followed by bargain bin obscurity and little or no value. We also had a game market limited to the hardcore player of PS2 and Xbox and the children playing on Gamecube. Today’s world of connected boxes, MMOGs and mass market penetration of the Wii is very different. The structural change Mr. Patel calls for has already happened, it just happened on the distribution and content sides, not the production side. It will help Mr. Au as well.

Publishers have more platform choices and revenue streams than prior cycles, as well as a more diverse market of game players. PS2 remains a strong platform, and will be supported for the next few years, while mobile, on line and casual are just hitting their stride. So while the publishers are investing tens of millions into frontline games, they are still able to invest US 3 to 5 million into a PS2 game and sell several million units, and are starting to invest PS1 budgets into games for distribution via Xbox Live, PSN and Wiiware. These titles and channels carry economics very similar to those enjoyed two cycles ago. Even better, the AAA games are sold into connected consoles, providing the opportunity for add on content. The add on kings are definitely Rock Band and Guitar Hero, with millions of songs sold, but on line games are successfully selling additional content to players. All those COD 4 add on levels create additional revenue the publishers never dreamed of in prior cycles. The same can be said of the new GTA installments, which will leverage the technology investment of the initial game for lower production costs, and make it to market digitally, for higher margins. In short, publishers are investing more, but also leveraging more dollars out of each investment. If we look at the market on a continuum from free to play casual games through hard core MMOGs, the market is expanding at all ends, and getting really fat in the middle.

When he is done with software, Mr. Patel questions the installed base numbers:
With the console hardware installed base and console software unit shipments finally catching up to the previous cycle (on both counts), the industry should perform better in CY 2008E, but woefully below the ~50% improvement necessary to offset the higher industry development costs. While the hardware and software ASPs are higher this cycle (vs. the same period in the last cycle), we note that CY2009E and CY2010E embeds a robust console hardware and software unit outlook that may prove ambitious (considering that numbers have only caught up with the last cycle this year).
I don't know how Mr. Patel is measuring the pace of console uptake during this unprecedented staggered launch. Mr. Au seems to believe console sales are over, and does not even address the back half of the cycle. While it is not as necessary as he writes, I believe the 50% improvement in pace may be closer than he thinks. Both are ignoring the hockey stick nature of the installed base growth. Platforms start slow, and then take off with price reductions. History says Microsoft, and possibly Sony, will make price cuts this holiday season. I wrote last week about the perennial nature of software sales, and the holiday centric sales of hardware, price reductions occur for the holidays. Game hardware is a relatively big ticket item and people wait for the holidays. The core gamer comes in early when the consoles are still expensive. Over the course of the console's life, the hardware changes, the research costs are amortized, the retail price is reduced, and the uptake pace increases exponentially. This happens at the time when publishers are utilizing technology developed earlier in the cycle and reducing the costs of production. In other words, more profit for everyone on the back end the cycle. A fact ignored by both of our “analyst” friends.

This gets us to the final point. Both gentlemen conclude the market for development will be shrinking. Mr. Patel, through consolidation and Mr. Au through reduction in scope of titles. I admit I came to the same conclusion in my first cycle. Mr. Patel feels publishers will consolidate and developers will be pitching into a smaller pool of publishers, making it more difficult for independent developers. Mr. Au feels publishers will no longer want to invest in blockbuster titles. This conclusion is logical if you make all those assumptions we made in economics classes. It does not fit in the real world. Will there be publisher consolidation? Absolutely, but he makes they both make a critical mistake by assuming publishers are the only option, and the distribution channel is static with barriers to entry. There is no question the market for independent development is tougher than it's been for years, but it is not attributable to consolidation or lack of interest in epic titles.

As I said earlier, publishers found this cycle to be more difficult and more expensive than they anticipated. They also have to sell more units than they did in earlier cycles - not 40% more, but more. These pressures caused them to question their ability to choose titles and just about paralyzed their decision making process. But as we move into the second half of the cycle, or second quarter if you believe Sony's statement about PS3's life cycle, the base will start to support title production, especially the reduced cost associated with building on existing technology.

When it comes time for a solution, rather than looking to market expansion, Mr. Patel uses the same myopic view of some of the game publishers. He feels the market is a zero sum game and publisher can only gain what others lose. Fortunately, some publishers are growing out of this mind set and Mr. Patel should as well. The industry must look to market growth, not market share growth. Fortunately some are, thanks to products like the Wii, Rock Band, Guitar Hero and other accessible games is growing even faster. Guitar Hero 3 passed 8 million units in sales, and I would venture to guess production cost was not on a par with Call of Duty. Nice margins. Almost as good as the first Zork. As Mr. Au pointed out in his article, this market will continue to grow. Contrary to Mr. Au’s position, it will not grow at the expense of the existing market, any more than the independent film market grew at the expense of the summer blockbuster. At the other end of the spectrum, publishers will invest deeper into the core gamer market because it is easier to pull more money out of each consumer than ever before. The investment of USD 100 million into World of Warcraft nets revenue from 10 million subscriptions a year. Sure not everything is WOW, actually, nothing is WOW, but the folks behind Lord of the Rings, Conan, Eve Online, Dark Age of Camelot or any of the other very profitable MMOGs - a non existent market last cycle - are not complaining about increased production costs.

We can’t forget the people who make the games. No Mr. Au, it is not the end of the developer they too will see more opportunity. Senior executives who joined through acquisition will vest, profit and choose to leave to start new development, just like they always do. It may feel impossible, but it is happening as we speak. Some will make big games, others will make companies like Big Fish, or Tell Tale. The market they are entering may have fewer publishers operating under the current model, but it will have more options than ever before. New entrants to the community include Warner, Universal and Paramount. Independent finance is coming to the market through publishers like Brash, as well as slate financing and title finance. Venture finance is backing the disruptive models they hope will overtake the EA and Activisions of the world, and other models are emerging as I write this post. In short, Mr. Patel and Mr. Au, yes publishers will consolidate, because they can, but ever since this Lincoln freeing the slaves thing, the talent is free to go where they choose, fortunately, those who survive will have plenty of choice.

Friday, June 27, 2008

I Leveled Up: Bragging Edition

I've been using Nike + for a couple of years and this morning I ran the last fourteen miles to pass the 3,000 mile mark.

Just a bit after my 40th birthday I started running for the first time in my life. I thought it would be easy. Pick up a pair of shoes, put on a pair of shorts, and go. I was wrong. After the first few steps I was winded, and by the end of the first quarter mile I thought my head was going to explode. I didn't use an MP3 player the first few weeks, and then I realized, they are good for running. I know, it takes me a while to figure things out. Eventually I was able to make it a mile without throwing up and then even further without my chest feeling like an alien was trying to burst free. A little while into the journey, I found podcasts and started listening to a ton of different stuff, ranging from NPR and BBC to Dawn and Drew (I highly recommend Dawn and Drew and The Bugle put out by John Oliver and Andy Saltzman.)  A bit after that, Apple released the Nike +.

Nike + applied game grammar to running. I ran the same route, but went a little faster. My times were ranked against other people in the community. People I didn't know challenged me to run certain distances, or make certain times, and I did.  With very little effort I had a visual depiction of my progress from sofa dwelling sloth to middle aged man tenuously grasping at youth.  In the process I progressed to the point where I ran the local 10k and ultimately, the Los Angeles Marathon. Yes, I am bragging, but there is a point. Nike + is basically Wii Fit on steroids. It is a game platform utilized by a worldwide community of runners. Like Wii Fit's aspirations, it gets you in shape.

When I was at the agency a very successful writer/director told me about a conversation he had with another very, very, very, extremely successful writer/director. The two went to film school together and remained competitive for the next 35 or so years. The hugely successful guy called the successful guy into his very elaborate game room, decked out with a plasma screen big enough to require a crane to mount it on the wall, 58 channel surround sound, theater seating and sound proofing, and told him how well he was doing in Ace of Aces.

"I have been playing this game for a month, its amazing!"
"Yeah, what do you do?"
"I fly this plane and I shoot down other planes."
"Very nice."
"After a month of solid play - hours every day - I am now the highest ranked player in the game."
"Yeah, but what have you accomplished?"
"I told you, I am the highest ranked player in the game."
"As a result of your efforts over the past 30 days, my world has not changed, and neither has yours. You have accomplished nothing."

My MMOG may not be Warcraft, or even Ace of Aces, but I accomplished something.  

Thursday, June 26, 2008

Morality?: People Who Twist Religion are Scary Edition

I've fallen behind in writing and want to put down some thoughts about the Deutsche Bank report suggesting structural changes in the game industry and some other stuff, but I can't stop thinking about a comment submitted yesterday to an earlier post. It reminded me of the scope of the gap between beliefs in this country, as well as the reasons the industry encounters so much pressure from outside forces. It also showed me why Richard Dawkins is right and people use religion for very bad things.

A while ago, I wrote the post in response to a The Timothy Plan press release I viewed to be issued to ride on the coat tails of GTA IV publicity:
The Timothy Plan, a morally responsible family of mutual funds, refuses to invest in companies like Take-Two Interactive because of their involvement in the anti-family entertainment and pornography industry.
This view is consistent with the funds charter, which reads:
The Timothy Plan® avoids investing in companies that are involved in practices contrary to Judeo-Christian principles. Our goal is to recapture traditional American values. We are America's first pro-life, pro-family, biblically-based mutual fund group.
This is their choice, and it is cool. I just thought it was odd for the plan to issue a release about companies in which it chose not to invest. I also thought it was somewhat hypocritical for the fund to refuse to invest in a company responsible for virtual guns in an "M" rated game, but to invest in a company making real bullets, one charged with EEOC violations for racial discrimination or the one which sexualized a 14 year old Brooke Shields in her jeans and regularly run provocative underwear ads.

Someone who identified his or her self only as "Whereareourmorals?" - no one on the web gives their real name when they want to throw stones - posted the following comment to my post about The Timothy Plan:
The fund is not out to be hypocritical. There is a difference with putting a gun (fake as it might be) in a child's hand and protecting our freedom (Right to Bear Arms). What parent wants their kids to play video games where their son has to kiss a boy to earn point? The Timothy Plan seeks to preserve families and let children be just children. This is a pro-family values mutual fund, maybe you would be more interested in the Vice Fund or the Lesbian Fund or the Animal Rights Fund? No one is stopping you, why bash a company that is pro-children and pro-moral values? Just food for thought.
These people would be so much more effective in their goals, if they just didn't talk. It’s the talking part that repels people. They take a pro-family and pro bible message and turn it into one of intolerance and self righteous judgment.

The comment really threw me. I can see where people would disagree, but I didn't think people really thought like the commenter any more. I am not concerned about the commentor's disagreement. If disagreements kept me up at night, I would not have slept a wink in the past 30 years. It is the nature of the argument and the level of intolerance presented with as much certainty as if he or she was saying the sky is blue.

Living on the westside of Los Angeles puts me in the deepest, darkest, sapphire blue center of a blue city in a blue state. I find myself more purple, than red or blue, and consider the presidential candidate selection as one between the lesser of two evils, but living in this climate concerned, prius driving, free range loving, therapist using, yoga attending, chai drinking, how do you really feel environment, my understanding of the real world has apparently shifted.

This commentor is not just wrong on so many levels, but he or she scares the shit out of me. The first, and most significant, objective mistake is addressing the issue regarding GTA as a children's issue. If the game falls into the hands of children, it is through the action or omission of the child’s parents. Not the publisher or retail chain. The game is not targeted at children any more than the bullets manufactured by the company receiving investment from the fund are targeted at children. The publisher and retail chain take reasonable steps to ensure the game is not sold to children. The FTC found Gamestop, the top retailer, to be 94% effective in stopping sales to underage consumers. Take Two’s actions have no more to do with letting children be children and Sesame Street has with advanced graduate degrees. I can't fault Wheareareourmorals for this mistake because it is fairly common misconception. It is also a useful arrow in the argument’s quiver. It's the rest of the post that spins, like a Japanese horror film, into a very, very dark place.

The person explains it is better for the biblically inspired fund to support bullet makers, who after all, are protecting our freedoms, than to put a virtual gun in a child’s hand. Of course we aren’t even putting virtual guns in a child’s hand, but if I attack there, I have to stop writing. I think the statement is a justification for the investment in the ammunition company, but it fails in its tie to the fund's principals. People may differ on the protecting, part, and right is more highly prized by some than some than others, but the right to bear arms is neither judeo-christian nor found in the bible. It is found in the American Constitution - a non sectarian document - and unique in its establishment of this right. The investment in an ammunition manufacture is not a protection of the right, it is an exploitation of the right granted by the document, which specifically precludes the establishment of laws precluding or mandating religion.

The next point, I believe, references the kiss in Bully. Again, my perspective may be somewhat obscured by my residence within a gay marriage State, but the statement " What parent wants their kids to play video games where their son has to kiss a boy to earn points?“ sounds kind of homophobic and somewhat ignorant. Is this person consciously choosing not to take advantage of the knowledge we possess in 2008 to know the kiss in the game will not make his or her son gay? So long as the rest of the game is appropriate for him, I am a parent who does not mind if my son earns a point in the game for kissing a boy. It promotes tolerance, suggests understanding, and may spur a discussion about the kiss. I submit, Whereareourmorals? household which believes the kiss is harmful is more dangerous for their child, than playing the game. A danger made larger if their child actually does turn out to be gay. Between the virtual gun and the virtual kiss, this person seems to have a problem delineating fantasy and play from the real world.

I have to admit, I did enjoy the second part of the commentary, "This is a pro-family values mutual fund, maybe you would be more interested in the Vice Fund or the Lesbian Fund or the Animal Rights Fund? No one is stopping you, . . . " I never really thought of this kind of investment, and perhaps if I did make one I would attend an annual meeting for the first time in my investment life. It would definitely be in Las Vegas and have an open bar. Maybe some Cirque de Soleil folks in devils costumes swinging around . . . It would be a lot more fun than the Timothy Plan’s meeting and the annual reports would be a lot more interesting.

It may be my own moral shortcoming, but I don't look at a fund's moral position prior to investing. I look to their earnings performance. There are all kinds of funds looking to invest "green" or in a "morally appropriate" way, some do better jobs than others, but in the end, they are artificial constraints on the fund's ability to invest. It is impossible for any large scale fund, to be invested only in companies ascribing to a certain morality. Their target companies do business all around the world and in many cases must comply with local rules, regulations and customs. Funds trying to comply run into issues of relative morality. This is how a fund with good intentions, like the Timothy Plan, could end up with investments in companies like the ones mentioned in my post.

As much as Whereareourmorals? would like us to believe it is so, there is no global morality. Wheareourmorals? and many other ignorant people believe it is appropriate to link vice, lesbianism and animal rights in the same thought bubble. The grouping doesn’t come from the bible, which does discourage vice, also discourages judgment. While Whereareourmorals? may believe lesbianism is amoral, it is not a globally held belief and will not find much support in the real world. Not to mention Showtime. Whereareourmorals? bible also says animals have souls. In fact his or her bible says their Creator instructed Adam and Eve to be vegetarians. They only ate animals after their act of defiance and banishment from the Garden of Eden. I point this stuff out because this person is perverting the message. People like this use religion to justify hatred, horrific actions and wars. He or she is using his or her interpretation of the bible to attack people, games, animal rights, and just about anything else he or show finds disagreeable.

I do agree with Whereareourmorals? on one point. We can choose to invest, or not. If the fund he or she supports attracts people like Whereareourmorals?, I choose not.

Monday, June 23, 2008

Fourth Quarter Releases: Stop the Insanity Edition

This morning, I listened to a podcast with a couple of game reviewers arguing about how many games they have to play in the fourth quarter. They argued the stupidity of a release schedule so dense they could not keep up. They are right, but not about the keeping up part. There are too many games released in the fourth quarter. As far as keeping up, treat them like books and hire more reviewers, problem solved - but not for the consumer. We are looking at a cause and effect issue. The publishers put the games in the fourth quarter because it is when all the consumers buy games. Its the holidays and all. But have they ever thought consumers may be buying games in the fourth quarter because it is when all the good ones are the in the stores? I don't think they have.

I went through and pulled fourth quarter release dates from Gamespot. Some of these may have changed, and some might not have been right in the first place. The first thing we notice is the fourth quarter is kind of like the rest of the Christmas shopping season. It gets earlier ever year, and this year is creeping well in to the third quarter. To me the official launch of the holiday game season is the annual release of Madden. This year, it is happening on August 10. The rest of August is rounded out with some other highly anticipated titles. Too Human on the 17th, Brothers in Arms: Hell's Highway on the 24th and Mercenaries 2 on the 31st. Kind of a busy month for the core gamers. There may be some who only buy Madden, but I would guess there is significant overlap between the Brothers in Arms audience and Mercenaries.

September is no slouch either. The first week, we have Spore (fingers crossed), Legendary, and Midnight Club: Los Angeles. Those disks won't even have a chance to cool down when we take them out of the console for Force Unleashed, Socom, Civ IV, Destroy All Humans and Warhammer Battle Mech, all releasing the week of the 14th (Yes I know I am mixing PC with console, but the clock on the wall knows no platform distinction.) September Gaming goodness doesn't end there, with the release of Silent Hill, Warhammer on line, Tom Clancy's H.A.W.X. and Pitfall Wii all shipping the 21st. But we are not out of the month yet, there is still another week with Fable 2, Far Cry 2 and Project Origin (They can't call it FEAR 2, but we can). A lot of titles, but wait . . . there's more.

A bunch of titles are designated as Q4 releases. Some, like Prototype will slip, others will make it. The contenders include Guitar Hero World Tour, Tomb Raider Underworld, Fallout 3, Gears of War 2, Saints Row 2, NBA Live, NBA 2K9, Neverwinter Nights 2, NHL 2K9, Star Wars The Clone Wars: Light Saber Duels, Prince of Persia, WWE Smackdown, Lord of the Rings Conquest, Bionic Commando, Dead Space, Tom Clancy End War, Little Big Planet, Left 4 Dead, Call of Duty 5 and maybe even Starcraft.

We are looking at several hundred millions of dollars of game development being dropped on consumers within a period too short for them to even play a handful of them. We talking about competing for dollars, but the more scarce resource is consumer time. There simply is not enough time to play the games being released. A smart consumer knows they can't play all the games at once, so they buy the one they want most and wait to buy the rest- at a lower price.

This year we were able to get some anticipated games like GTA IV, MGS IV, Bourne Conspiracy, Devil May Cry and some others without waiting for the holidays. We were also able to sit down and play them, without the urge to switch them out quickly to see what the others look like. I wish I could say we had all this fun and time to enjoy because the publishers planned it, but they didn't. All of the titles missed their q4 ship dates from the previous year. Wonder of wonders, they still sold. GTA did not ship against Halo 3 and COD 4, and they all sold. People came to the stores and purchased games, even though it wasn't the holidays. So . . . let's back the prior sentence up, and break it down. A bunch of highly anticipated games shipped in the fall, and people bought some of them. Then, Activision promoted COD 4 in the first quarter, and people bought it, then GTA shipped in the second quarter and people bought it . . . I think I see a pattern. People buy the games they want regardless of the time of year. No, couldn't be. I thought March and April were Midway's opportunity to release sub-optimal games into an empty market, when no one else ships.

Publishers have to start looking at the entire year. The film business understands they are competing for dollars and a short period of time. Even when such a short period of time - one night- is sought, they think about the the other releases on the market. The jockey for dates, counter release, and try to scare other studios off of certain days. In the game business, we must command a lot more attention, but we have no qualms about investing years of development resource and money into a game and then throwing it into a crowded market during a very small window. It just doesn't make sense. The buying season is not the cause, it is the effect. The games are the cause. If you release only shit games during the first 2.75 quarters of the year, no one is going to buy games during the first 2.75 quarters. When you release all the good games at the end of the year, they will go to the store, and buy some of them. If it is a cost issue, and people are waiting for holiday buyers, they will still pay full price for the title at the holidays, look at GTA. If you aren't confident the price will hold, look at the game, not the season.

Of course this can't be said of console purchases. Especially during the first half of the cycle when consoles are still expensive. We just saw this with the release of GTA IV, which was considered a console mover, but didn't move so many. This is because most of the world can't afford to make a USD 300 to 600 purchase on a whim. Especially for a leisure device. Consoles are almost by definition, a holiday gift. Publishers may see this as a rationale to release in the 4th quarter. Consumers are in the stores buying consoles, so they must want games. Right? Wrong. They may buy a few games beyond on the ones bundled with the console, but if you stand in a store long enough, you will see, they move to the bargain bin. These consumers are spending a lot of money on the console and may purchase a single full price blockbuster, but the rest of the purchases are USD 20 and under from last year and the year before. They never played Gears of War, they didn't have a console. Crackdown? New to them and under USD 10. These people will put the console under the tree, hook it up to the TV at the end of December and play the games it came with. Some time around mid February, early March, if they enjoyed the games they played, they will leave their house and venture to the store, to feed the machines. In Wal-Mart and Best Buy, they will find all the excess inventory of the holiday games being blown out at discounts. At Gamestop, they will find all of those holiday games available at significantly reduced used prices.

It doesn't have to be this way. Let's try a radical idea. Launch good games in the first two quarters. Completion doesn't magically occur at the end of the end of the year, it happens at the end of the schedule. Give the developers the extra few months of polish, miss the holidays, make the money.

Friday, June 20, 2008

Check it Out: New Legendary Preview Edition

Singularitarily looking like the surprise hit of the fall.

Peter Moore: I'm a Fan Edition

I have been a fan of Peter Moore ever since I saw him get on the stage at the 360 introduction and talk about the future of connected gaming. He ran a demo of Project Gotham and talked about a sponsored event, played by thousands and watched hundreds of thousands. It was really cool and at the time, it was unique. It didn't really play out quite along those lines, and the race never happened, but the seeds were sown. Now as head of EA Sports, arguably the strongest brand in games, he is acknowledging the wonders of market expansion.

This morning I woke up to a gamedaily article quoting Peter's view of Rock Band changing game forever.

"It really came home for me when we were in Munich for our global marketing meeting and we took over the Hard Rock Café for the night and had a Rock Band competition. There were a hundred of us and it was like a real rock concert. It was a blast. I stood back and I thought that this was an incredible cultural phenomenon," he said. "The crowd were going wild, but all we were doing was playing on toy guitars, toy drums and singing badly into a microphone. Now the beer might have had something to do with it, I don't know, but it was a great social thing. And I said, 'Boy, this product is going to change the way we think about games.'"

Part of what he is saying, is games got fun again. Rock Band is so accessible, anyone can enjoy the gaming goodness which was, until recently, reserved only for the hardcore. It also moves counter to the traditional game play dynamic of playing with yourself, or playing with yourself with others in different rooms, to actually participating in live social environment with other people. Yes, I realize what the sentence sounds like and it is not an accident. Rock Band lets people have fun with others and does not penalize people who don't spend hours learning arcane controls and rule sets - and people love to play, what a surprise. We saw a flavor of this in the past with cocktail table style Pacman games. It was an easy game, and people looked at each other when they played, so they liked it. The game also embraces popular culture through music, creating common touch points for gamers and non gamers a like. Peter sees the connection beyond the box. The games also allow for public performance.

Gaming leagues are growing in popularity around the world. Thousands of spectators attend competitions in Asia and hundreds, sometimes thousand show up in the US. But the spectators are gamers. Non-gamers don't go. They go to clubs and bars where they can talk to each other. This is because at a game tournament the person playing has fun, the person watching, is watching. It may be interesting to look on screen if they are familiar with the game, otherwise, there is nothing going on. The only thing we are really doing is taking our mothers' basement on the road. With Rock Band, the player is performing to the crowd, creating an observer experience.

There is one more element of change from Rock Band and Guitar Hero Peter did not mention, but is most certainly aware. The games breathed new life into the music industry when it desperately needed it. In return, the music industry is supporting the game. The players exhibit an insatiable appetite for music, and the music business is cooperating and profiting. Not too long ago, if someone wanted to incorporate a song into a game, the answer was always "it is more expensive than you can afford." Today, these games are platforms for music distribution. The labels are happy and EA and Activision sit on the gift that keeps on giving. This is where games truly go mainstream.

Sure, some may say Rock Band and Guitar Hero are fighting only for market share, and on some level they are. But because there are two, not one, the companies are forced to make better product and add more value, thereby expanding the market for both. As I noted a couple days ago, the head of the world's largest music label is joining Activision's board. The battle in this new market is about to get a lot more interesting, and a lot better for gamers and non gamers alike.

Thursday, June 19, 2008

23 and Me is Scary: Privacy Edition

23 and me (23andme) is a relatively new company providing a friendly service. The company describes itself as "focused on helping consumers understand and browse their genome." You spit in a cup and they give you a bunch of services relating to you genotype. You can find out about your ancestry, genes you share with family members and a ton of other stuff based on an analysis of your gene. It costs USD 1000, but you get to find out all this information and if you choose, you can share it with others in a social network and compare characteristics. 

On their side of the equation, they separate your genetic information from any personal identification information, and put it into a database available to research and other institutions. Some may pay a fee. They are creating, with consumer subsidy, what may turn out to be the world's largest database of genetic information. The database will provide the data to cure disease and alleviate untold suffering in the world. The service is useful to its consumers. The data is unimaginably valuable, to them. It is a veritable Youtube for genetic researches. Beyond the financials, it is a tremendous service to humanity. The scary part, is one of the initial investors is Google.

Google learned something early on I didn't learn until law school. You don't have to know anything, you just have to know where to find it. Google's version, is data is power, but you don't have to own it as long as you can tag it. They created the best algorithm for creating metatags and the rest is history. Their business, is not entirely based on the data tagged on the web. In consideration of the service they provide, we provide personal data. Lots of personal data. We surrender our privacy without even knowing it.

We know we are surrendering privacy when we introduce ourselves to someone. Less directly, we surrender privacy when we hand a credit card to a waiter in a restaurant. Some of us know we are photographed and filmed tens of times each day as we walk around in public. Few realize who much data we surrender to Google and other on line services. When you do a search on Google, it tracks your search, and ties it to you IP address. Yes, even the porn. This is then stored with all the other searches and the places you go on line, purchasing through the wallet and tons of other stuff. The profiles are sold to advertisers and the like. Google has never matched the profiles to actual names, but AOL and others have, under government order. 

Google actually stood up to the US government and refused to offer certain services in China to avoid the risk of having to disclose. Right now we say it is no big deal, because we are not doing anything wrong. But what happens, as in the case of the Patriot Act and AOL, the rules of what is wrong change and start to be measured by what appears to be wrong? It is a scary thought when you consider Google not only has the search data, but if you use Google desktop, it has access to metatags for every file on your computer, gmail gives it access to all of your email, the proposed health service will give it access to your medical data, the wallet gives your purchasing data, and android phone gives it your communication and location data. They will know everything about you, because you told them. 

Is there anything more private than your genome? I may be paranoid. Strike that, I am paranoid, but I am not the only one. Earlier this year Rolling Stone did a fantastic profile of Larry Brilliant, the head of the Google foundation. The story revealed some of the strategy behind the investments as well as the concerns. He considers:
Where can Google make the most difference?" Another litmus test: "Will it scale?" That is, if it works, could DotOrg grow it exponentially? A pandemic-warning system, based on Google search technology, would definitely scale. Building roads in Africa, though important, would not. . . . As the system evolves, it's easy to imagine how Google's prowess in search technology, satellite imagery and mapping might revolutionize how we respond to epidemics.
It is a great idea. The investments are amplified by Google's prowess in its core business. With Larry and Sergey at the helm, operating under their credo of "do no evil" the world can feel safe, but the potential for wrong is there.
. . . as the company moves deeper into the realm of public health, the questions get more complex. Collecting data is one thing; once you get it, what do you do with it? If you detect an outbreak somewhere in the world, who has the authority to make the call? Who takes responsibility for the warning if it turns out to be wrong? Who profits if it's right? . . .
"It has to be clear that this effort is not about gaining commercial advantage but about changing the world," says [John] Doerr. Right now, Google is able to deflect many questions about privacy and corporate evildoings simply because Sergey Brin and Larry Page seem like honest guys. But the more the company moves into new arenas, like energy and public health, the more danger there is that Google could be revealed to be just another greedy corporation using philanthropy as a mask to hide its plundering and profiteering.
The article is about the foundation side of Google, the investment in 23andme, along with investments from other leading VC's, came from the business side. The founder of 23andme happens to be married to a Sergey Brin, but the investment is not a case of nepotism. The business makes sense for Google. The database will be an incomprehensibly large pool of data. As it sits, it is without value. The data will only have value when it is sorted, tagged and correlated. Once Google tools are applied, the value is immeasurable.

A whole set of issues will arise on the profit side with the growth of genetic treatments. Patent issues have already arising with treatments coming from human genes. Is the person who carries the gene giving rise to the AIDS vaccine entitled to portion of the revenue generated by the discovering and commericilizing company? I don't know. These issues will be the subject of years of debate by people smarter than I. My concerns don't arise from what the company does within its own control, or from the profit it will generate. These are only money issues. May can flow in any direction if someone determines compensation was made to the wrong person, or not made to the right person, the money can be reallocated. My concerns arise from the actions the company must take outside of its control and which cannot be imagined today.

Like your search queries and computer files, the genetic information is separated from any personal identification data. Other than you, no one will be able to tie your genetic data to your identity without your permission, except you . . . and 23andme. The company warns you about opting into the sharing system as data is hard to contain once released. It also explains your data may be supplied to researchers, and if they are interested in personal studies, they may ask if you would like to participate. This is all reasonable. But what about compelled disclosure by the company?
Disclosure Required By Law

Please be aware that under certain circumstances personal information may be subject to disclosure pursuant to judicial or other government subpoenas, warrants, or orders. In the event that we are legally compelled to disclose your personal information to a third party, we will notify you with the contact information you have provided to us in advance unless doing so would violate the law or a court order.
We have no reason to be concerned today. There are no legal repercussions to carrying a gene. . . today. Then again, the government did not have access to your library records before the Patriot Act. My concern is in the things I can't imagine today. I am not so worried about a Fantastic Voyage scenario where my gene would be the one to save the president and I picked off the street to be sacrificed to save the life of another more important person - even though the thought of how many people are more important is mind boggling. I am not even concerned about a possibly more realistic Minority Report scenario. My concerns lie in the yet to be determined questions of ethics and responsibilties arising from our increased knowledge of genetics.

What if one of your genes carries a 100% certainty of passing on a 100% terminal disease to your children? What if a gene creates the risk of an aerosol transmission of a carcinogen? What if you are the sole source of a gene which could wipe out AIDS? What if you are named as a party in a paternity action? What if an adoptive child wants to find their birth parent? When will there be an ethical obligation to disclose personal information and when will there be a legal obligation? There are a ton more I can't think about, but as we learn more about the human genome, more possibilities of good and bad will emerge. It will create a field day for attorneys and medical ethicists and more years of debate. You think stem cells are controversial, wait for this. But it will also create an entirely new set of rules, laws and regulations. As we learned from the DMCA, the first implementation of regulation of new technology is not always the best. During this learning phase, whose privacy will be compromised?

The warning in the privacy statement cautions sharing the data, but it does not address the permanence of your shielded data. As people learned from Facebook and Myspace profiles, the information posted on the web is among the easiest in history to create, but part of one of the most permanent records in history. They think about sharing with their friends. They rarely think about the privacy they forfeit. Do you really think the teenagers flashing their parts on Myspace know they are sharing it with the world forever? Well, maybe they do. When I do a Google search on my name, I find a post I put in an Apple Newton forum 10 years ago. 23andme, is no different. According to their privacy policy, they are more like the Hotel California than a white board.
When deleting an account, we remove from our systems all Genetic and Phenotypic Information that can be associated with your Account Information. As stated in our Consent Form, however, Genetic Information and/or Phenotypic Information you have provided for research prior to your request for deletion will not be removed from ongoing or completed studies that are using the information. Neither Account Information nor a link to your account are used in 23andMe-authorized research. In addition, we retain limited Account Information related to your order history (e.g., name, contact, and transaction data) for accounting and compliance purposes.
If the law changes and you are no longer comfortable being on the grid, you cannot remove your data. When the company is required to disclose the identity of carriers of a gene associated with predisposition to spit on the sidewalk, someone may come knocking on your door.

I am excited by the prospect of building the Library of Human Alexandria in our lifetime. As a cancer survivor I probably have some defective genes, possibly of interest. There ones I don't know about are the troubling ones. As much as I may want to know what I am carrying, I am too scared today to contribute.

Tuesday, June 17, 2008

Why Does the FTC Care Now: Getting Ready for a Democratic FTC Edition

No stranger to investigative pressure from every acronym associated with the US Government, Take Two is once again embroiled in controversy. Only this time, they really, really didn't do it. The FTC is trying to force Take Two to surrender reams of information, some of it confidential business information to determine whether the business combination the company does not want to be a part of will harm consumers. 

The FTC's action is not unprecedented, nor is it unique under the new FTC chairman, but it seems to upset fundamental rules of fairness. We like to think our government acts logically, this would not be the case here. EA instigated a takeover attempt and was rebuffed by Take Two. EA lowered its per share purchase price of its tender offer, which was already lower than the current trading price of the stock.  Now, before the tender offer is accepted, Take Two is being asked to show why it is ok for the merger to proceed.   Personally, if I were Take Two, I would be providing lots of information, with different color highlights for the parts constituting monopoly positions. Before I get to there, I have to wonder why the FTC is not investigating EA's position in sports without the business combination.

For some reason the FTC feels the need to protect a specific subcategory of games.  I don't know why, but let's go with it.  Most publishers operate successfully without sports titles. For years, hardly any publisher would touch sports because EA's position is so solidly entrenched. When they tried, bad things happened.  If a publishers started to make a market in a new sport, EA would step in and bid up the license. When Sega published ESPN football, EA bought the commercials and the name of the ESPN NFL broadcast, and ultimately an exclusive license. EA and the NFL said it was the NFL's decision to go exclusive, but was it the Arena Football league's decision too? Worldwide, soccer titles are the best selling sports titles, but in the world's largest homogenous market, Madden is the sports leader. Madden is the cornerstone of EA Sports, and its major lever.  EA will fight to protect its market share for this title, but it wasn't always like this. There as a time when EA cared about market size of market share.

When Sega was launching the Genesis in 1989 they didn't have a football game. They were building Joe Montana to compete with Madden, but the development was not going well. Trip Hawkins, who created Madden so his friends could play fantasy football with him, knew the market would suffer with only one football game. Worse yet, Sega would not survive without a Madden fighter and Hawkins needed two consoles to play off each other. Hawkins convinced the Madden developer to take new plays he had written and use the Madden code to make Joe Montana football. They were basically the same game with different plays and graphics. He laughed at reviews favoring one over the other, but the market grew and consumers benefitted. Years later, EA behaved differently when it was confronted with Take Two's bargain entry into the market.

In 2004, EA put out a full price Madden and Take Two put out a bargain priced ESPN 2K5. The games were comparable in scope and most felt they were comparable in quality, some even favored the ESPN game.  Before the next games could be built, EA entered into an exclusive agreement with the NFL.  EA says it was the NFL's request, but whoever drove the decision was thinking more about market share than market expansion. That year Madden sold about six million units, and ESPN had sold about 3 million. The interesting thing, according to a former EA senior executive, is 60% of the consumers purchased both skus and Madden sales were up from the previous year. Since the ESPN controls were basically the same as Madden, Take Two was subsidizing the entry of new consumers into the football market for EA. They expanded the market by millions of consumers and unit sales of Madden have not reached the aggregate sales of the two titles since ESPN left the market. All EA had to do to compete, is make a better game. EA did lower the price of Madden earlier than ever before and if Take Two continued to sell at a lower price, they may have had to lower launch prices in the future, but if they did, the consumer would benefit.  They could not shirk quality, because there would be a competitor in the market.  The only pain would be in margins.  Realistically, even margin pain would be alleviated when Take Two inevitably decided to raise prices.   When the license went exclusive, it was consumers who were hurt.

Aside from NFL, EA Sports has exclusive relationships with FIFA, NASCAR, Arena Football, The NCAA College Football and the PGA. The MLB is exclusive to Take Two, but does anyone really care about baseball games? I still don't get why they bought it. It is almost like EA needs Take Two to hold the license like Microsoft needs Apple to hold on to its 3% market share. They can say there is a competitor in the market, but not really. The real questions for all of this is why now, and does the addition of Take Two to the mix really make a difference?  If the FTC cares about this subsection of the video game market, shouldn't they have investigated years ago?

Getting back to the point . . . While the FTC's action is consistent with the new regime, it is unusual in the circumstances. The agency made a second request for information a few weeks back.  This is somewhat typical, and expected by more than a few people in this situation. It then went on to issue a civil investigative demand, or the equivalent of a subpoena, to provide additional information. In its affidavit the FTC says the action is necessary because Take Two is not complying with the original request, a charge Take Two denies, but why should they? They didn't ask for this deal. 

Imagine someone walks up to you and offers you money for your car. You don't want to sell your car, but they make an offer for what they believe it is worth. The DMV looks at their driving record and realizes the potential buyer has been in a lot of accidents, so they ask you to prove why selling the car to them will not be a danger to the community. But wait a second. You didn't want to sell the car. The DMV should not get involved until you try to sell the car. The FTC is getting involved before the car is sold.

If the FTC is concerned about whether Take Two's management is acting in the best interest of the shareholders, the extraordinary action may make sense. But the FTC is not responsible for shareholders, the SEC is. The FTC is responsible to consumers, who will only be harmed, if the shareholders accept the tender offer. In the case of a friendly merger, like Activision/Vivendi this type of investigation did not occur until after the parties agreed on terms and it looked like, absent shareholder objection, the deal would go through. We are not there yet with EA/Take Two. As far as the shareholders, if they feel they are harmed, they can bring their own action, as can the SEC.

Emotionally and morally, Take Two should not have to comply. They will find out if they legally have to comply after the hearing on June 24th. Practically, maybe they should. The FTC is obviously concerned about EA's ability to exert monopolistic control over the market. Take Two could probably present evidence of exertion of control today, and could probably easily present evidence indicating the combination of Take Two and EA would make the ability a certainty. In fact, they may even be able to prevent evidence of harm they incurred from EA's exertion of monopolistic pressure as the company stands today.  Such a showing may trigger FTC action against EA absent a merger.  

While the ability to exert control may only support separation of 2K Sports from the transaction and not compel blocking the acquisition, we must consider whether the acquisition will still be as appealing to EA. If they don't get sports and the majority of the GTA IV revenue is already booked, is Take Two still a compelling acquisition?  The very fact the FTC is investigating shows the interest this young regime has in making a mark and its suspicion the deal will harm consumers. Perhaps Take Two should work with the FTC to prove their concerns are justified.

Monday, June 16, 2008

Activision and Vivendi Pending Nuptuals: Merger Watch Edition

The mailman dropped a 500 page gift on my doorstep this afternoon, the Activision proxy statement for the special meeting to approve the Activision/Vivendi merger. From the first press release Activision made it very clear they were merging with Blizzard and they would not let all the other stuff (the thing we call Sierra) get in the way. The prospectus makes it even more clear, retells the already published nice story of the on again off again courtship, brass balls poker play by Bobby and provides some interesting clues about the new company's future.

In typical Activision style, the document does not mince words. Right on the cover it is made clear Activision is merging with Vivdendi Games for its "portfolio of leading franchises, including Blizzard Entertainment, Inc.'s World of Warcraft." No other franchises are mentioned, with good reason. While Vivendi is the owner of some of the most beloved and best known franchises in the game business - Crash Bandicoot, Spyro the Dragon, SWAT and other great library properties - they never turned them into products people wanted. The risk factors section highlights the point, noting WOW accounted for 62%, 77% and a whopping 85% of Vivendi's revenue in the years ending in 2005, 2006 and 2007, respectively. The percentage is not solely attributable to WOW's market leading growth. Sadly, even Blizzard's growth could not keep up with Sierra's decline. While Blizzard's direct operating margin grew 80% from 2005 to 2006 and 43% from 2006 to 2007, Sierra's losses increased 140% and 62% respectively. Vivendi says it was because of the difficulties suffered by all the publishers in the console transition, but Allen & Company, Activision's banker compared the once market leading Vivendi to pre Phil Harrison Atari, Majesco and SCI Entertainment for purposes of their upside valuation opinion. Not exactly the market leaders. The downside opinion calculated only the carrying costs until shut down.

The ten page background section tells the tawdry tale of the courtship of the two companies. The already published report tells the story of the commencement of discussions in December 2006 and multiple break downs until agreement occurred in December 2007. The interesting part of the discussions occurred in September of 2007. Activision had been doing due diligence on Vivendi for a number of months. The only matters material enough to mention in this description were the subscription and churn rates for WOW, and they are mentioned a lot. After receiving sufficient comfort, the parties started discussing the business combination. This went on from July to September 14th, when Bobby called Bruce to tell him there were too many issues and the deal would not go through. He called off the discussions. Three days later, Bobby attended a "previously scheduled" dinner with Mike Morhaime and other members of Blizzard's management. Bobby told Mike about how important it was for Blizzard management to remain the same - in the new company for which discussions had ended - but didn't really talk about other points of the deal. Three days later, Bobby called Bruce's boss and started discussions again. The key point of the discussion was management of the new entity, which will be Bobby as President and CEO, Brian Kelly as Co-Chairman and Rene Penisso as Chairman. Mike Morhaime will be President and CEO of Blizzard and Bruce, will assume the newly created role of Chief Corporate Officer.

This was a long winded way of my saying, looks like Vivendi sold Blizzard. Sure it's a merger, but the merger is based on a relative valuation of the companies, Sierra was assigned little or no value, and based on the downside valuation it was considered an expense. Activision would not do the deal until they were assured Blizzard management was secured, and when the time came to do the deal, they did it with the parent company. This is interesting to me because rumors were flying a few years ago of Vivendi being on the block. More rumors circulated about offers rejected because they only included Blizzard, not Sierra. Approaches were also made for Sierra alone, and they were rejected. Pursuant to this deal, it looks like they are selling Blizzard alone, and throwing in Sierra as a parting gift.

The course of a year also bestowed a great benefit on the company. After the discussions broke down in June, Bobby restarted them in July with a counter proposal. He proposed an increase in the tender offer by 1 billion dollars, with a commitment to use USD 2.4 billion from the proceeds of Vivendi's share purchase, Vivendi to cover the next USD 700 million from additional shares sold to Vivendi, and the final USD 400 million would be funded through an Activision credit facility. Months later, a price of $27.50 was set for the tender offer, a 45.2% premium over the trading price on the date of acceptance. If the tender offer was completed for the maximum number of shares, Vivendi would end up with 68% of the new company, partially subsidized by Activision, and Activision would have USD 4.028 billion less cash. Because the offer price is significantly lower than the current trading price, the tender offer will likely not be accepted, Bobby will hold on to his cash, and Vivendi will end up with only 52% of the company, a significant ownership swing. Bobby is not the sole direct beneficiary, but it certainly benefits the existing shareholders he represents. In hindsight, it looks like Vivendi was sitting on a straight flush when they called Bobby, who was holding a royal flush.

There is a bit of a tip off going forward. Not really a huge surprise, but an interesting acknowledgement. Activision makes it clear they are merging to get into the on-line subscription business. The merger makes them not only a player, but THE player. They are already profiting significantly from COD 4 add ons and Guitar Hero songs. This revenue is recognized upon payment by the consumer. At the end of the year, they will be introducing a new type of product with different rules for recognition. One of the notes to the financial section, and a comment in the risk factors indicates a change in accounting practices for certain titles. Starting with Enemy Territory: Quake Wars, they will start to recognize revenue for titles which have "online functionality that constitutes a more-than-inconsequential separate service deliverable in addition to the product, principally because of its importance to game play." They view the service period as six months and will recognize revenue over the period, rather than on sale. They go into detail about Quake Wars, and mention they will be analyzing these products in the future. I am confident the Blizzard infrastructure will color the analysis. Blizzard will enable them to enter into not only the Quake Wars FPS market, but perhaps the free to play microtransaction and other markets which require on going, online support.

Finally, the biggest benefit outside WOW - Doug Morris joins the board. Doug is the head of Universal Music Group and together with Jimmy Iovine, grew it into the biggest music company in the world. He also got the USD 1 per Zune concession out of Microsoft and went toe to toe with Steve Jobs. Doug's participation and connection to the company will certainly enhance Activision's existing Guitar Hero business as well as its recently announced "sounds like" Rock Band product. This should give EA cause for concern.

Bobby explained Activision is not the soul sucker EA is, and there is no doubt he will be hands off on Blizzard, the interesting action will be newly appointed CCO's Bruce Hack's integration of the rest of the stuff.

Check it out: Jason: Rise of the Argonauts Edition

Here is the first official trailer for Jason: Rise of the Argonauts from Liquid Entertainment. You will want to keep watching for more news on this one.

Why Isn't my [movie, book, star] a Game: Licensing Edition

Several times a week I get calls the help make a game from greatest movie, book, celebrity, song, musician, brand or something else genuinely recognized by millions of people. More often than not, the game business is just not interested. This is because games succeed based on the quality of the game play. Story, art direction, character development can all enhance a game and lead to incremental sales, but when it comes down to it, if it is not fun to play, it won't succeed.  There's not much story in Tetris, and unaltered from the game, Halo's story would not carry a linear narrative.  A license will not make the game mechanic any more fun. It will only assist in marketing. To do so, there must be an event around the time of launch which will let the world know the game is out. "Event" means something big, like a tent pole film which makes the license front of mind for the 120 million plus people who walk through Wal-Mart each week. Short of that, good luck selling. If there is no event, and the publisher has to let the world know the game is out there, they may as well invest in their own brand.

Game production carries an opportunity cost. A publisher can only make so many and they already have more ideas than slots. If they take a license, it is usually for portfolio management.  It is easier to launch something with a known name or story, than an original IP, but it still has to make financial sense. The license fee creates increased cost and lowers margins, but the marketing impact of the property and the risk mitigation should make up for it. The publishers everyone wants to deal with have evaluation criteria in place. They are all basically the same and all looking for
1) a film with a release date set two or more years out;
2) a production budget commitment of USD 80 million or more;
3) USD 80 million or more committed to marketing; and
4) a high likelihood of sequel films.
Anyone should be able to look at the list and understand why more licenses are not turned into games. You should also see why Pixar and Dreamworks animations always find deals. When viewed through this prism, books immediately fall away, television shows - who knows if they will still be on the air and/or popular in two years, musicians - no launch event, and the list goes on. Some may say the publishers are being unreasonable, but these unreasonable entities will be investing somewhere between USD 20 and USD 30 million into a property owned by someone else over the course of the development and launch of the first product. We are not talking about a JIT inventory produced lunch box. Moreover, they will likely not generate an acceptable return on the first product and will look to make more.

The hardest factor to deal with, and usually the gating item, is timing. Games take two years to produce, and films, generally are released 12 to 18 months after commencement of production. Commencement of production is the relevant date because the purchase option is usually not exercised until commencement and until exercise the studio does not have the right to license a game.  On the game side, we see studios shopping films which are either not greenlit, creating  risk of a game release with no film support and an expensive license; or a film about to got into production, leaving too little time to make a decent game. Some publisher buy them either as part of a block sale of rights, or because the object is too shiny for them not to grab.   The cost of a license falls precipitously from two years prior to release to a year before release.  Sometimes it is too hard for a smallish publisher to pass on the opportunity to buy a massive license at a very low, or even no, cost. 

The studios try to get ahead of the curve and encourage the publishers to put a game in production because the film is "fast tracked" or "really is going to go" but even if the film does go, the timing and content will likely be off. Starting a game production is like starting a freight train. Steering it in a new direction is very time consuming. If the film content changes, it is hugely painful to revise the game. If the release date is delayed, the game release cannot be held.  It is not like fine wine and will not age well. If it is moved forward, the game will be launched into a void. I tried to introduce the idea of a tiered royalty, where a publisher would pay a reduced royalty if the film is not released in a relevant window, but it doesn't work.  If there is no film support, the publishers view it as paying to launch an original IP they don't own.

Ok, now let's say you have a big old effects laden film with a 2 year production cycle and you get out early to talk to publishers. There is lots of support and Wal-Mart may even make it an "F4" event. The publishers want to know it will be sequelized. The game license will be for a number of years - usually 7 to 10 - and publishers hope to amortize their investment over a number of releases. If there is no movie support in the future, the value of the license is significantly reduced. Harry Potter games in a movie year, sell a ton, but sales drop off in a non movie year. Pixar games are some of the top sellers in release years, but sequels to the games without film support sell only a small fraction. Requiring sequels may sound onerous, and limiting, I thought so until I worked on Peter Jackson's King Kong. I figured we had two and a half years of lead time, a guaranteed release date and Peter Jackson coming off of Lord of the Rings. People would be knocking our doors down. Don't get me wrong, there was a lot of interest and the property commanded a great deal, ground breaking in many respects, but some publishers didn't even come to the table. When I spoke with one publisher, who I won't name, but let's call the "Shmee EH" I described the opportunity:
"The budget is committed and so is the release date for one of the best known film properties in history to be written and directed by one of the most successful film makers in history."
"Not interested" without missing a beat.
"Not interested? You don't even have to think about it?"
"No. The monkey dies. No sequel."
"You won't find enough of those." then I realized, they held the licenses for Harry Potter, Lord of the Rings, and James Bond. 
A lot of this will be changing in the very near future as the studios get into the game development business. Warner, Universal and Paramount already announced their plans and are already at work on film properties.  Disney has been doing it for years.  This is a great move by the studios and if they put the right people in place, they will do very well.  It is more in their interest to build a great game out of the IP than a licensee.   They own the property, and they are moving higher up on the revenue tree.  Rather than getting a piece of the sales, they are getting the sales revenue.  The producer/actor/director or other participants will theoretically get royalties directly off of sales, rather than a piece of the studio's piece.   I say theoretically because it is not clear how cross company royalties will be handled.  It will be interesting to see how their licenses are received once they start up internal, but that's another story.

If you are a producer/director/writer/actor wanting to make sure you game is made well, get involved early. Tell the production side you want to be involved in the game early.   Remember the studio can't sell the rights prior to exercise of the option, but neither can you.  If you work together, you can get out early with the property.   Bring in a game designer to help figure out the game and hone the pitch so the publishers can see value.   It is kind of like the Darrow drawings for the Matrix pitch.  Finally, accept the fee structure as being significantly different on the front end from what you are used to in film, but know royalties actually do get paid and accountings are honest. Production will steer you to the right people, and with the right support, you can get it done . . .  or at least find out why it is not so you are ready next time.

So you get the movie issues, it's not really rocket science, but you still don't see why the publishers don't want to work with your author, creator, director, producer, artist, rapper . . . . who is very, very successful and talented. The industry worked with Tom Clancy and now his IP accounts for 1/3 of Ubisoft's revenue. Yes and no. Tom Clancy invested his own money into a game developer, launched a successful game and Ubisoft bought the developer. Wanna do that? I didn't think so. The truth of the matter is publishers do want another Clancy, and the increasingly robust technology allows for, and often demands richer story and better character development. As I said earlier, game play is paramount, but characterization and story are growing in significance.  Publishers are smart enough to see this.  Too often, the talent is not presented in a workable manner. You have to sell a game to the game business.

Usually agencies and others try to sell a track record, a three act story, or a character. I am aware of a property created by a major director and conceptual artist out right now with one of the major agencies. This guy directed a number of blockbuster films, and the concept artist created just about every character you liked in film for the past 10 or so years, but the property being presented is a three act story, not a game. There is no greenlit film, so there is no marketing incentive, and there is no game described so the publisher's don't even know what they are looking at. Publishers use marketing, sales and distribution departments to evaluate production risk and forecast sales. If the numbers look right, they buy. When you submit an IP, with no game concept, it is a lot of work. Like a studio trying crack a newly purchased novel for film, the publisher must go to work trying to find the game in the story. If you are lucky, they will go talk to developers, either internal or external to see if someone wants to work on something. In most cases, you don't even get to the developer stage. They know they have too many properties some other guy bought are still not in development. They can't buy another one.

There are ways around this issue, and it doesn't necessarily mean attaching a developer to the project. Attachments can bite you in the ass at the least opportune time. I made it work with Afro Samurai, Clive Barker and some others I can't mention yet. If you are curious about how to do it, we can talk . . .

Thursday, June 12, 2008

Check it Out: Interface Edition

We always talk about the interface, but still find ourselves holding a controller to interact with out games. Gamers are comfortable holding one, but when I put it in my wife's hand it is like a small, stinky, herpetic, alien creature just sprung from her forehead and landed in her hands. So today, I am serving the dual purpose of falling prey to my own sloth and not writing a lot, and sharing some very, very, very cool interface work.

The first is from techno artist, programmer, genius, Golan Levin:

These two videos use voice in more interesting ways than we do in games. Kind of a reverse Patapon:

This one asks the question "What happens when the art looks at you?"

This one is the Digital Wheel Art Project , which melded homebrew inventor Johnny Lee's Wiimote hack and MIT's Todd Machover's creativity tools to enable people without use of their limbs to paint:

Here is the project:

Digital Wheel Art from YoungHyun Chung on Vimeo

Here is Johnny Lee and his Wiimote hack:

Here's Tod Machover's work, it's longer, but worth a view:

Finally, the work of Jonathon Harris. There is a lot of stuff on his page for you to check out, but I especially liked this one. He took pictures at a fixed interval throughout a whale hunt. The interface he designed allows the pictures to be sorted in an accessible way, but more significantly, the interface actually tells the narrative. I promise those words did not do it justice. Click here and dive in to the Whale Hunt. It will rock your world. I also recommend We feel fine.

Monday, June 9, 2008

New Money: The End of Battered Developer Syndrome Edition

I know this pain
Why do lock yourself up in these chains?
No one can change your life except for you
Dont ever let anyone step all over you
Just open your heart and your mind
Is it really fair to feel this way inside?

You could sustain
Or are you comfortable with the pain?
Youve got no one to blame for your unhappiness
You got yourself into your own mess
Lettin your worries pass you by
Dont you think its worth your time
To change your mind?

Some day somebodys gonna make you want to
Turn around and say goodbye
Until then baby are you going to let them
Hold you down and make you cry
Dont you know?
Dont you know things can change
Thingsll go your way
If you hold on for one more day yeah
If you hold on
It's a tough world out there for independent development. We are going through an attrition. Teams are getting bigger, burn rate is higher and time between deals is longer.  For years and years and years a developer's only choice has been to sell to publishers, and the number of publishers are consolidating.  As a result, battered developer's syndrome is overtaking the development community.  I do not in any want to make light of spousal abuse or the plight of its victims, but bear with me for a bit.

The victim of an abusive relationship develops low self esteem. They stay because they believe they are stuck and have no alternatives. They start to rationalize the way they are treated, and enter new abusive relationships because they think they deserve it.  The overlap with the DSM IV definition hit me when I read the recent New York Times Article article about Shigeru Miyamoto.
“What’s important is that the people that I work with are also recognized and that it’s the Nintendo brand that goes forward and continues to become strong and popular,” he said by way of comparing Walt Disney’s role in the larger brand with his. “And if people are going to consider the Nintendo brand as being on the same level as the Disney brand, that’s very flattering and makes me happy to hear,” . . . With a net worth of around $8 billion, Nintendo’s former chairman, Hiroshi Yamauchi, is now the richest man in Japan, according to Forbes magazine. (Nintendo does not disclose Mr. Miyamoto’s compensation, but it appears that he has not joined the ranks of the superrich.
Miyamoto-san is regarded by many as the greatest game designer of all time. I realize not all people measure success by their financial return, but his labor as a salaried employee made his boss the wealthiest man in Japan.  Miyamoto-san is not some salary dude who's contribution cannot be directly traced to performance of the company, he is the performance of the company.  It appears he has not been recognized financially on a scale commensurate with this contribution. Culturally or corporately, this concept was passed on to him. His reference to Walt Disney sounds strikingly like a rationalization of the benefits bestowed upon him for his contribution. I am sure he is genuinely happy, but I am not.  Of course it is not my place to tell him or Nintendo how he should be compensated but there is one big difference between him and Walt Disney, Walt Disney was really, really rich.  

Financial abuse is not the only type heaped upon developers.  I am not talking about individual abuses like non-payment of royalties because developers just can't sue, adding features or additional marketing art without additional compensation, stealing key team members rather than signing the developer again for a sequel, or forced conversion of royalties into equity investment.  I am addressing those provisions developers come to accept as "standard,"  termination for convenience, publisher IP ownership, high earn outs, weak sequel rights, "key manning" certain employees, sometimes even restrictions on equity sales.  Publishers have good reasons for all of these things. I was one, and I did. They are making tremendous financial commitments in the form of non recourse loans, collateralized only by something which may be delivered and may work . . . and developers lie. I know its shocking, they do. These are good excuses, but the real reason the deals are one sided, is because they can be.   For most developers, publishers are the sole source of capital and therefore hold all the cards. The net effect of one sided deals, is a weakening of the development community and, in the long run, suffering for the publishers. Diego Angel taught me a deal must be fair to both sides, or else it just won't work.  He sold his developer for close to mid 8 figures and retired to Colombia.  

Developers are on odd commodity. I remember very little of my college econ classes -  it all happened in the midst of a smoky haze - but I do remember the big x representing supply and demand. Publishing and development isn't like that.   I don't know what letter would represent the market, but it would be something with another leg on it representing tremendously time sensitive downward pressure. If a developer does not have a team in place, a publisher will be concerned about hiring risk. If they do have a team in place, they are burning cash and losing deal leverage on a daily basis.  There are developers out there who get better deals, some, even great ones, these are the ones who are able to access outside capital, or invest royalties from prior titles, both exceedingly rare situations. The market is about to change and the funny line may be removed from our supply and demand graph. More developers will have access to capital.

The same market forces which drove Hollywood studios to seek outside capital are at play in the game business. Budgets are going up, release windows are getting crowded, rentals are undermining primary sales and product must appeal globally. Hollywood is taking money from private equity funds, banks and even Arab Nations to help fund expanding budgets of blockbuster films. The opportunity to invest in Hollywood is so attractive today, there is more money than there are deals,  and producers of content are benefitting by the reduced cost of money.  Studios are using cheaper money to increase budgets, and producers with track records are able to access capital to fund their own films.   Money is plentiful and production resource is scarce.   It's the supply and demand thing. 

Some of the money which is not making it's way into Hollywood and other money, is moving into the game space. To Hollywood it is not so much, to us it is a lot of money. More money than needed to support the current crop of developers, and at least as much outside capital as is spent by the major publishers on an annual basis. These sources of capital rely exclusively on external development and will not only afford opportunity to developers, but may even challenge the publishing oligopoly to break from their traditional deals. The new money is more willing to take risk on new IP and more willing to look beyond the Metacritic score of the last title. So who are they?

The first source of money was the first source for the film business. In film it is called a negative pick up, I don't know what it's called in games, but it's been going on for about ten years.  If a developer is able to secure a commitment to repay the budget within a reasonable period of time of release of the game, sometimes up to a year, a bank will loan the developer money to develop the game. The developer must also acquire a bond, guarantying on budget and on schedule production. The bond company will do due diligence to make sure the developer is able to do what they said they can do and will sign off on each milestone to make sure they are doing it.  The advantage to the publisher is they don't have to pay for the title until after it is released. The advantage to the developer, is they sell a game the publisher may otherwise not have purchased. The disadvantages are the cost of the bond sitting on top of a publishing deal and the deal itself which looks pretty much the same as a publishing deal without the outside funding. The deal may be incrementally better from a higher royalty offered by a publisher if the bank was willing to accept less than a 100% commitment, which some are willing to do, but most feel about the same. This is because the developer is locking in distribution at the beginning of the deal, it is still considered high risk and they will not receive the larger financial return associated with signing at vertical slice or beta.

The next kind of money is new and just entering the market. It is more like a venture investment and these sources are pretty exciting. A number of funds, rivaling the major publisher's overall production budgets in size, have either recently closed or are in process of closing. These funds come in a variety of flavors, but can be characterized by a greater willingness to take risk on new IP.  They see a stagnant IP market as opportunity. Some have distribution requirements and their investments must be vetted by their distributors. Others are able to greenlight on their own. These guys move faster and give better deals than traditional publishers. They have to. If they do not, the developer has no reason to choose them over a publisher with a proven track record.  They also do not have the one-size-fits all deals offered by the publishers.  IP ownership can go either way and royalty rates and advance earn outs are negotiable.  The only restriction is the deal must make sense.  Deals are bespoke to each situation.  The disadvantage of these deals is the developer doesn't know if the title is going to get support once the title is completed. When it comes time to market and distribute the titles, the ones distributing through publishers may suffer affiliate label issues, the ones distributing themselves, may not be so good at it.  

Finally, the studios are coming.  Disney has been in business since before Jan Smith put the tent over her car many years ago.  They are a full-blown publisher in every sense of the word, developers should not look for anything special there.  Warner launched Warneractive, Time Warner Interactive and iNscape, mushed them together, closed them down and now relaunched ten years later as Warner Interactive.  They own Monolith, but look externally to work on the licenses and with the new president in place, are threatening to acquire original IP from developers and expand it into other media.  They are not quick to pull the trigger and so far their deals look like traditional publishers, but they are actually making them.   The exciting movement is happening at Universal and Paramount.  Both announced a willingness to commission developers directly and release, or partner for release of projects based on their IP.  This will not only give them more control over development, but move them higher up on the revenue tree.   Fox is yet to announce any plans, but it used to operate a top publisher.  Fox Interactive published the Die Hard Trilogy, Alien v. Predator and Gex, prior to turning to a licensing model.   

These are not the only new players in the market, but they do represent a significant draw from the development pool.  The increased demand will very likely have the same impact it had in the film business and move us from a buyers' market to a sellers' market for those developers who are able to survive the current attrition.   This does not mean marginal developers, or unqualified developers are going to be able to get deals, but it does mean developers with track records will be able to make easier transitions from one game to the next, the deals cycle will be reduced, and a market will once again open up for splinter groups from internal publishers. It is already happening.   

So developers, you don't deserve it and you have options.  All you have to do is hold on for one. . . maybe a few more days.