Overview
Sande Chen
<Sande.Chen@alumni.usc.com>
With estimated revenue of $635 million to be earned in 2003, online gaming has emerged as a likely
powerhouse in the industry's future. Consulting firm DFC Intelligence reports that 2001's top online games each cashed in over $100 million in revenue and predicts that by 2006, 114 million people worldwide will be playing games online. Other analyst groups support the high projections: IT researcher IDC forecasts $1.8 billion in U.S. revenue for 2005, while Jupiter Media Metrix predicts $2.55 billion in 2006. Game companies, from Microsoft to small independents, are eager to develop online business models capable of capturing this lucrative market.
Online gaming, while wildly popular, is just one of the ways to capitalize on the Internet's potential. Web-savvy companies can sell directly to customers, serve as intermediaries, or employ a combination of online strategies.
This article by no means intends to discuss the myriad possibilities. Instead, relevant examples will be examined using the structure of atomic business models explained in [Weill and Vitale01].
Bypassing the Traditional Retail Model
Since the Web's inception, e-tailers have learned to harness the power of the Internet to reach thousands of would-be customers. The direct-to-customer business model bypasses intermediaries and ideally offers consumers a better value, better customer service, and increased convenience. The e-tailers, in exchange, might gain higher profit margins through cost reduction, product placement fees, and the sale of advertising space or customer data. The direct-to-customer business model can be extremely profitable, but its success depends on several key factors.
As [Weill and Vitale01] details, a successful direct-to-customer business must first capture customer awareness and then maintain interest through marketing or good press. The business must woo repeat customers by understanding their needs and by ensuring that transaction processing, fulfillment, and payment are conducted in a secure and efficient way. In addition, the product must be unique enough to deter price competition.
To the independent game developer, self-publishing and self-distribution via the Internet might be an appealing proposition because the game developer retains control over the product. However, the experiences of
independent developers CogniToy and Digital Tome indicate that both retail and direct-to-customer markets can be difficult for self-publishers.
Traditional Retail Model
The traditional retail model, which is discussed fully in Articles 1.2 and 1.3, is a proven method to generate revenues. As shown in Figure 2.7.1, the publisher, the distributor, and the retailer all act as intermediaries between the developer and the customer.
Figure 2.7.1: In the traditional retail model, the publisher owns and controls the rights to the game. The developer supplies the game to the publisher, who then negotiates with distributors and retailers to reach the customer.
Each of these middlemen decreases profits for the developer. Even though the consumer might pay $50 at the store, the developer tends to receive little or none of that purchase price. Moreover, since the advance payment by the publisher is recoupable, the developer will not receive any royalties until the game's development costs have been fully repaid. From the standpoint of the game developer, this model tends to be more favorable to publishers.
CogniToy: Web and Retail Sales
Independent developer CogniToy chose to use the direct-to-customer approach and later expanded to traditional retail channels. Located in Acton, Massachusetts, CogniToy was founded in March 1997 to make
"intelligent toys for intelligent minds." Its award-winning robot simulation game, Mind Rover: The Europa Project, was released in November 1999 and at that time, only available through CogniToy's Web site. Like
other small companies on the Web, CogniToy used a third-party credit card validation service to facilitate sales.
Despite scanty advertising, Mind Rover sold pretty well via the Web site. Reviewers raved about CogniToy's first product. Within months, Mind Rover was available for purchase on Amazon, EBWorld, The Robot Store, and several other online sites. It sold so well at EBWorld, Electronics Boutique's online home, that the retail giant asked CogniToy to consider selling the game at its regular stores.
However, CogniToy soon found traditional retailing quite difficult. It lacked the marketing resources and the clout of the big software publishers to get in-house advertising or retail shelf placement. The company needed to package Mind Rover in a glossy four-color box for the retail version. Originally, Mind Rover had sold as a CD and manual only. To keep its cost per unit constant, CogniToy cut the 250-page manual down to 64 pages.
Moreover, since game retailers sell on consignment, a company only gets paid if the product sells. If it doesn't sell, the company pays to ship the unsold merchandise back. CogniToy found itself waiting months to get paid, if at all. While traditional retailing might have increased CogniToy's exposure, it yielded significantly less profit per copy than the Web site sale.
CogniToy's CTO Kent Quirk advises, "I would not recommend that small companies attempt to crack the retail market without knowing exactly what they're doing."
CogniToy's retail experience resembles that of Figure 2.7.1 while its online business model corresponds to Figure 2.7.2. Like other companies that sell direct-to-customer and also use intermediaries, there are potential channel conflicts. For example, the Web site sales might destabilize a relationship with the retailers. Instead, CogniToy could have pursued another revenue stream through the licensing of its technology. Indeed, it now sells a downloadable development kit to owners of the Lego RCX robot. In hindsight, Quirk admits that retailing might have been a bad decision for CogniToy. If there's a next time, CogniToy intends to leave retailing to a publisher.
Figure 2.7.2: CogniToy's self-published game, Mind Rover, was sold direct-to-customer via its Web site and through intermediaries. EBWorld, like its parent company, sells on consignment.
Digital Tome: Episodic Digital Distribution
Like CogniToy, Houston-based Digital Tome opted for a direct-to-customer model but with episodic downloads.
Co-founders Van Collins and Jim Shiflett planned to digitally distribute what would be equivalent to a traditional retail CD. In 2000, Siege of Avalon, a single-player RPG in six chapters, was released over the course of several months. Three chapters were central to the story's plot while the other three were expansion chapters designed to give further opportunities to explore the fictional world. Players could purchase each chapter separately or all six in a bundle. This business model, depicted in Figure 2.7.3, had never been tested before.
Figure 2.7.3: Digital's Tome game, Siege of Avalon, was sold to consumers through a subscription or a la carte. Digital Tome paid Digital River, a third-party transaction company, a percentage of the sales.
Digital Tome soon ran into problems with customer expectations. Even in a downloadable format, gamers expected premium quality cinematics, voice actors, music files, and sound effects, all of which would necessitate huge file downloads. Without widespread access to broadband Internet access, such a huge download led to long and often costly download times.
Digital Tome also ran into high fixed costs for distribution. Digital River, a third-party transaction company, handled transactions and hosted the downloads. Since each chapter was larger than the download limit, penalties were assessed for each downloaded purchase.
Other potential customers resisted paying online for a downloadable product. They wanted a physical object in a box. In September 2001, Digital Tome released an anthology CD with a manual and additional content. This immediately caused a channel conflict, which led to the suspension of online subscriptions. Earlier U.S.
customers had paid $35 for the 500MB download, while the retail product was selling in stores for $20.
Consumers outside the United States complained that the cost of the subscription after exchange rates and download charges were about three times more expensive than the box.
In 2002, Digital Tome ceased new product development and the co-founders launched Expedition Games.
Despite the difficulties, Shiflett still believes in the future viability of digital distribution. Certainly, digital distribution, if it's convenient, secure, and profitable, has the potential to overtake the traditional retail market.
However, even in 2002, broadband penetration rates in the United States are lower than expected, and according to the International Intellectual Property Alliance, billions of dollars are lost through software piracy each year.
Online Gaming and Virtual Communities
A vibrant virtual community is absolutely critical to the success of online gaming businesses. Unlike Digital Tome and CogniToy's games, which do not require an active Internet connection to play, online games are usually played with friends. Because of the tight-knit communities that develop online, gaming sites are known to be among the "stickiest" sites on the Web. Portal sites, like Lycos and Yahoo!, routinely use their gaming zones to place interstitial advertising and to cross-promote other offerings.
Generally, online games are geared toward two target customers: hardcore or casual gamers. Of the approximately 50 million online players, hardcore gamers are a small minority but they are the least price- sensitive. Hardcore gamers, predominately young males, are attracted to massively multiplayer or multiplayer games, often spending over 20 hours per month online. Casual gamers are more interested in little "coffee break" browser-based games which run about 10 to 15 minutes. Casual gamers, older and predominately female, are the fastest growing audience for online games.
Opportunities exist for the independent developer, as the experiences of Samu Games and Tams11 Software indicate, but the high costs of developing and maintaining a massively multiplayer online games will need the support of publishers.
Massively Multiplayer Online Role-Playing Worlds
Currently, the top massively multiplayer online role-playing games, or MMORPGs, each have between 200,000 to 400,000 paying subscribers. Games are sold at retail stores and after the free month of play, the purchaser can opt to continue the subscription for a monthly fee. Thus, the retail model follows that of Figure 2.7.1.
The development costs for a MMORPG can range well over $10 million, but because the games reach so many people, there can be economies of scale. The sheer volume of ongoing subscriptions, combined with the sale of the retail box, add up to a significant sum. However, with new entrants competing for the same hardcore players, there might be market saturation, or a limit to future revenues.
Samu Games: Multiplayer Arena
A dedicated fan base has proven to be invaluable to independent developers like Samu Games of Tulsa, Oklahoma. Formed in 1999 by brothers David and Douglas Michael, Samu Games released the multiplayer war game Artifact in October 1999 and its sequel in November 2000. The real-time strategy game is freely available to anyone to download, but there are benefits to paying for Citizenship, as Samu Games terms it.
At any given time, there might be about 33 war games running simultaneously. Each active game runs
continuously until one side emerges as the victor, and the game might last anywhere from two days to a couple weeks.
Samu Games offers a mixture of payment options based on access. The Freeman level, designated for free accounts, is limited to three hours of gameplay per day. For a one-time payment, players are allowed to play a greater number of hours daily in more games according to a five-tier structure. The premium level, Full Access, which allows the player to play all day, every day, in as many as 12 games, is offered as a monthly subscription.
Approximately 3,000 players download the game each month. Typically, 1.5% of the newbie players become Citizens. Samu Games' sole revenue comes directly from subscriptions and a good percentage is from repeat customers, who continually upgrade their access level. One third of the new players come from player referrals.
The company refuses to have advertising because it would annoy players.
The active community on Artifact generates most of the content for the monthly newsletter, and fan volunteers serve as in-game administrators. The game itself was designed to support a virtual community, and players use the chatrooms and note systems extensively. The team-oriented nature of the game promotes community building since teamwork is essential to playing the game well.
Samu Games releases periodic bug fixes to Artifact, but other than that, there are no changes made to the game. However, to the player, each active game is different given the variables of players and skills. Samu Games hasn't given up the idea of a publisher or possibly licensing Artifact, but for the time being, it is committed to providing hardcore players with quality entertainment.
Samu Games successfully combines the direct-to-customer model with a virtual community, as shown in Figure 2.7.4. For a two-person company with volunteer staff, this is quite an accomplishment. It proves that when a company caters to its audience, fans are more than willing to devote time to improving and contributing to the community.
Figure 2.7.4: Samu Games' self-published game, Artifact, is free to play, but access time is sold direct-to- customer via the Web site. The company relies on referrals and low-cost word-of-mouth advertising from its virtual community to increase its subscription rate.
Tams11: Gaming Community
The Tams11 Gaming Lobby which started up in January 2002, is maintained and run by Tamera Shaw- McGuire. A one-woman workforce, she programs all of the card, word, or puzzle games herself. The games appeal mostly to women, who appreciate Shaw-McGuire's personal commitment. The community started to take off in March 2002, mostly through word of mouth, and the site received the Gaming Friends Multiplayer Excellence Award for the 3rd Quarter 2002.
Shaw-McGuire envisioned a gaming community that would be different from the larger, well-known sites. A casual gamer since 1999, she found that she disliked having to deal with the advertising on sites like Pogo and Yahoo!. Her biggest complaint was that those sites were cold and commercialized. She didn't want a "play to win" site, but a place where players could feel more involved with a community. Therefore, she says, "I wanted to make the players feel more at home at my site, knowing that I will try and be there to help whenever I can."
Tams11 members often converse with Shaw-McGuire, pointing out bugs and suggesting new games. Aware of her own penchant to chat online, she created a central lobby where any member can chat with another even if the other person isn't playing the same game. She also put up a tournament lobby that allows members to set up their own tournaments. The games offered are her unique creations but are similar to deleted games from other sites.
Shaw-McGuire's direct-to-customer business model resembles that of Figure 2.7.4. All of the games are free to play offline, but a subscription is required to continue playing online with friends after 30 days. Offline, the games are not very challenging and not much fun. The computer opponent usually loses.
So far, the hobby turned business has enough subscription revenue to cover costs, and Shaw-McGuire is pleasantly surprised that her startup is doing so well. As the community grows, she hopes that her level of personal service can stay constant.
Intermediaries and Combined Models
While the direct-to-customer model trumpets disintermediation, other companies have found success as intermediaries. Sites like Real's RealOne Arcade, MSN's Zone.com, and GameSpy attract a large audience of gamers by offering content, matchmaking services, and a large number of free casual games. At first glance, these sites might appear to be direct competitors, but in some instances, they are also partners. These larger sites employ a combination of online models and can provide valuable insights to independent developers.
Combined models can cause potential conflicts or synergies. Almost all gaming sites have forums or chatrooms because a loyal virtual community generally leads to repeat business and a good direct-to-customer
relationship. On the other hand, a game reviewer site that also sells games has a clear conflict of interest: it might be tempted to give glowing reviews to its own products.
RealOne Arcade
In 2001, Real launched its games division called RealOne Arcade. As shown in Figure 2.7.5, RealOne Arcade is essentially an aggregator that collects comparable products for display in one site. For customers, it
concentrates information about offered products, which lowers search and decision costs. For developers and publishers, it profiles their products with editorial content and user reviews. Registered users have access to forums and lobbies for multiplayer matchmaking. Thus, RealOne Arcade serves as a content provider, a virtual community, a direct-to-customer business, and an intermediary.
Figure 2.7.5: RealOne Arcade aggregates games from publishers and independent developers.
Advertisers are eager to reach consumers of the high profile site.
For the independent developer, Real offers the RealOne Arcade Developer Service. An independent developer can submit a game in any format and Real performs many of the duties of a publisher, such as quality
assurance, marketing, distribution, and transaction processing. Developers have a choice of exclusive or non- exclusive agreements. If the developer has an exclusive agreement with Real, then the game stays on the site for a window of time in exchange for better promotion and a better royalty rate. If non-exclusive, such as with CogniToy's 5 Card Dash, then the developer is free to sell the game elsewhere.
Real also works with established publishers to sell known games like Centipede. Both publishers and
developers use Real as a value-added distribution channel. All the parties benefit from these arrangements. For RealOne Arcade, the presence of diverse games helps to spur its virtual community, which in turn justifies its advertising rates.
Of the games on RealOne Arcade, many are free Web-based games supported by advertising. The higher- quality, downloadable games are available at different price levels. Consumers can buy games on transaction or through a subscription service called GamePass. Real's proprietary anti-piracy software ensures that the distribution is secure.
Unlike Digital Tome's offering, all of RealOne Arcade's games are small "coffee break" games intended for casual gamers. Most are single-player and can even be downloaded to PDAs. According to Andrew Wright, general manager of the company's game division, traditional retail distribution remains the best channel to reach hardcore gamers but the situation is completely different for casual gamers. He says, "For the casual audience, they can't walk into retail to find games that are relevant. They need ease of use. Digital delivery provides a level of convenience that the retail brick-and-mortar crew can't compete with."
Zone.com
MSN's gaming channel Zone.com, as depicted in Figure 2.7.6, also uses a combination of the content provider, virtual community, direct-to-customer, and intermediary models. However, unlike RealOne Arcade, its goal as an aggregator is not to sell games but to provide multiplayer support for a variety of games. Zone.com has over 100 games available for retail matchmaking, while RealOne Arcade offers only a handful of games with
multiplayer play. From its onset, Zone.com has focused on both hardcore and casual players.
Figure 2.7.6: Zone.com aggregates games from different publishers for retail matchmaking. Advertisers promote products to consumers through sponsored games.
Hardcore gamers rely on matchmaking services to find teammates and challengers. Microsoft does have its own games up on Zone.com, but other game publishers are represented as well. This would appear to be a direct conflict, but Zone.com has no incentive to drive players toward one game or the other. The retail games supported on the Zone have been sold already, and publishers tend to view multiplayer play as a value-added service. Zone.com's group product manager Chris Di Cesare says, "We benefit from the advantage of the increased traffic that we get through the players on the Zone and [the other publishers] get the advantage of the service and support that we provide through having the site." The other publishers do not pay Zone.com to host their games.
Zone.com is also the exclusive gateway to Microsoft's MMORPG Asheron's Call, which is subscription-based.
The virtual community from Asheron's Call does not tend to spill over to other parts of Zone.com. Instead, Zone.com provides its own chatrooms and a chat service called Zone Friends. To generate interest in its games, it regularly holds tournaments and allows players to organize their own tournaments.
Advertising and sponsorship constitutes about 72% of Zone.com revenues. Zone.com pioneered what it calls
"adver-gaming." "Adver-gaming" would include the 3D racing game Toyota Adrenaline, which featured a Toyota Tundra truck in the game-play and coincided with a six-month long Toyota sales promotion. Other sponsorship opportunities exist with the trivia game OutSmart. Launched in 2001, OutSmart pits a celebrity against players to answer questions about the celebrity's work. Players compete for prizes donated by the sponsor. Various TV shows, music publishers, and movie studios have paid Zone.com to host a celebrity on OutSmart in order to reach MSN's large Internet audience. Episodes are archived in the OutSmart gallery. In addition, some tournaments, such as the Bourne Identity Trivia Challenge, are sponsored.
Games like OutSmart appeal to casual gamers, and Di Cesare feels that this segment of the online market is