Overview
Thomas Djafari
<tdjafari@activision.com>
With every year, games become increasingly expensive to develop, the amount of work to handle becomes larger and larger, and while good planning and a well-controlled production will save you money, you still need lots of cash.
Ironically, it turns out that keeping the team together throughout the project and actually turning a profit might be harder than getting the initial funds.
The goal of this article is to illustrate the various sources of financing you can use for your project, how they work, and what the people who will decide whether to fund your team are looking for when evaluating your project.
Risks versus Returns
This is the single most important consideration, and one of the cornerstones of any business. The higher the risk, the higher the expected return must be; the larger the investment, the more important it is to keep risk low, or at least manageable.
All investors will need to evaluate the risks associated with your project. Provide them with the right information to allow them to evaluate the potential risks versus the potential returns of your venture.
In general, videogames are considered a risky investment. Compared to some other domains, they carry a relatively low cost in equipment and a very high cost in human resources, which is what investors tend to shy away from. While it is possible to recover assets from a failed project and re-use them or re-sell them, the money gone in salaries is a loss; when making videogames it represents the largest chunk of the budget.
Another concern is that many games lose money. A good product is not enough: you also need good
marketing, because companies are competing for shelf space in retail stores. Generating expectation from the customers, as the movie industry has done for years, has become indispensable. From an investor's point of view, there are many ways that this process could go wrong.
What Matters
You have a game concept, and possibly a team. Investors have money and questions.
A financing deal has to be built on a win-win agreement. Building a product with someone else's money requires a strong and honest relationship between the parties. Answering each other's questions is the key to a good start.
Risks Are Everywhere
Software development is very hard to plan. Unexpected problems—hardware failures, employee turnover, and so forth—keep cropping up at the most inopportune moment. Not only should your design be structured in such a way that it minimizes risk, but you must also prove to investors that you have taken all of the steps necessary to do so.
It is very important to be completely open and honest at this stage. All parties involved need to know what parts of the development carry the risks, how to handle them, and so forth. For example, the technology to be used has to be discussed in detail; using pre-existing engines or building on a previous game carries much less risk than rewriting code from scratch, even if it means more work.
Fallback Plans
Plans fail. Seemingly perfect ideas sometimes turn out to be wrong. And things sometimes just don't happen as expected.
Nobody is expecting you to deliver a problem-free project. However, investors need to know that you're ready to handle the problems as they arise. Take the right steps to minimize the risks, and prepare multiple fallback strategies to account for the possibility that part of your design might be cancelled, that you might lose a part of the team, suffer technical or planning problems, or that an unannounced competing title might change your own game's market conditions.
Experience and Knowledge of the Industry
Dealing with a company familiar with the game business is definitely easier for everyone involved. If your investor is not also your publisher, relationships can become slightly more complicated, especially if the funding company has no prior game industry experience. If that is your case, question the investors about their
motivations for entering the game market and try to understand their culture and goals.
Commitment
All projects go through hard times. For an investor, it is sometimes easy to bail out, leaving you with very little recourse, no matter what the contract says. Keep in mind that contracts are not much more than what arguments revolve around in courts if things go wrong, and that the investor has more money to fight legal battles than you do.
In practice, completing the project successfully will require you and the investor to be more flexible than what is specified in the contract. As long as both parties are committed and on good terms, this is the way every project goes. Therefore, before signing with an investor, make sure that they are as committed as you are. Ask the tough questions: Are they going to concentrate on a couple of projects, or do they run a myriad of them at the same time? If your game is just 1 out of 100 projects for them, it probably won't hurt them much to cancel it for any reason they please. Ask them to demonstrate a strong interest in your project and team.
Flexibility
Don't be afraid to ask the prospective investor about their plans if the game slips, and if they'd be open to
prototype some ideas that might change the nature of the product. While the answers to these questions will need to be detailed in the contract, it is a good idea to understand the intent of what the other party is looking for as early as possible. Do they want a specific game to fill a niche, or just any good game with a chance to compete in the marketplace? Learn from other developers who worked with that investor.
How Solid Is the Company?
Even a good deal is not worth much if the company disappears in the middle of your project. It is important to do your homework and then question them. You'll have to get involved with their politics and listen to their employees as well as other developers before you can determine if you want to do business with them.
Remember that a single replacement on the board of directors can make the difference between saving and canceling your project, and that this type of situation is out of your control. And don't forget that the financial situation of the investing company's subsidiaries, parent company, or other branches might also affect you.
Publisher Funding
So far, we have covered all the essential points that will need to be discussed with a source of financing. But where do you go now? Whom should you talk to? The most common option is to sign with a game publisher, but it is not the only one. Here are some of the issues that might arise when negotiating publisher funding.
Control
The publisher will want to assume the role of producer ([McGilvray03]). This is usually a good idea because their knowledge of the market is probably better and more current than yours is. The producers working for large companies are usually very knowledgeable and can help you make your product appealing to a larger audience, help with game play tuning, and so forth. However, the contract must set boundaries delineating what can be changed by the publisher; otherwise, the number of features might double in a month, and your project plan quickly become obsolete.
Manage relationships with the publisher well. The team will lose some power over their own game; make sure that they know it is for the project's greater good.
Ownership
Ownership is a very important and controversial topic. Typically, the publisher will want to own the technology used in the game, which will allow them to legally reuse it without paying you extra sums. If your game is almost ready and you have other opportunities elsewhere, the publisher will be the one making concessions in this area; otherwise, you might have to give up ownership of the software. At the very least, make sure you get a percentage of the profits they earn from re-using your work.
Protecting Your Team
Get a minimum number of units sold guaranteed in writing. A publisher buying a product that competes with their franchise title and never releasing it, in order to protect their sales, is a nightmare scenario that rarely happens but one that you must be protected against. Make sure your contract guarantees a release in stores and a minimum marketing budget, and negotiate a "kill fee" to protect yourself in case of cancellation.
And, of course, make sure that the milestone payment schedule is structured in such a way that you will never experience cash flow shortages. Since checks won't be mailed until the publisher has approved a milestone delivery, build the delay into your plan.
Going Through a Venture Capital Company
Foregoing publisher funding to sign with a venture capital company is a radically different experience, with higher risks for you—but also higher potential rewards.
While working with a publisher is pretty much like working for a publisher, dealing with a VC company is like having a partner—but one that doesn't share your priorities.
In addition to a good team and a good game idea, you need a solid business plan to obtain capital. Capital investors are buying a share in your company, not just in one project; they must be confident in your long-term plans before they open their checkbooks. Preparing a business plan requires significant work; hiring a
professional to write yours might be money well spent. See [Laramée03] for details.
Selecting a VC Partner
Most VC companies are not interested in videogames. Unfortunately, game projects are too expensive for very small funds, and not large enough for most companies that deal in the stock market. Moreover, since a game might take two or three years to yield revenues, it is hard to reconcile investment in games with the typically very short-term horizon of venture capitalists.
If a VC company initiates a dialog with you, it will be extremely different from what you get with the publishers.
Since you will be asking for "seed money" to create a demo, or maybe even for enough money to develop the entire product, they will question your ability to deliver the game, how you plan to sell, it and what they can get back if everything fails. Since they are not from the game industry, they might rely on publishers you choose with them to evaluate the product itself, and they might get involved in negotiating the publishing deal. For example, the VC might pay you to develop the game and receive the milestone payments from the publisher;
this protects you from cash flow fluctuations, but at the cost of an extra middle man. They will also control expenses very closely, thus forcing you to stick to the plan instead of doing research—to a VC company, a decent title delivered on time is preferable to a better product that costs more than expected and therefore reduces the calculated return on investment.
Going Private
Individual investors might also be interested in putting their own money into ventures like yours. And they may not be as difficult to find as you might think. For example, owners of small to medium-sized businesses might be willing to diversify their portfolio and risk small amounts of money in projects such as videogames.
In practice, individual investors will rarely provide more than what is needed to build a prototype, which brings you back to the original problem: finding a publisher. Funding a complete project from beginning to end is out of reach for most individuals. Therefore, this is a quick method to get started on a game, but it is not suitable for large projects.
A word of warning: since individual investors are usually not very familiar with the industry, they might not be prepared to deal with the types of problems that every project encounters, such as delays when developing the demo, finding the publisher, signing a contract, and so forth. Make sure there are no misconceptions, or the relationship can quickly sour.
Banks
Banks lend money to people who have money. It is easier to get $500,000 from a bank if you bring another
$500,000 as collateral than it is to ask for just $50,000 empty handed. Therefore, banks cannot be realistically considered a stand-alone funding resource; instead, you should use bank loans as a complement to your core funding.
For example, it is possible to secure an advance from a publisher and finance the rest of your development with a bank. This can be very useful, as the lower publisher advance might allow you to negotiate better royalty rates.
The bank can also provide a credit margin to use as a buffer when the schedule slips or milestone payments don't arrive in time. A good credit margin also comes in handy when beginning the next project while awaiting royalties.
Conclusion
Getting funding for a project is not nearly as difficult as getting the project done. It is, however, very time consuming, and the process can take anywhere from three months to a year.
Getting professionals to help can be invaluable. Involve a lawyer who is familiar with intellectual property laws when discussing your contracts. Agents can also help represent your team; meeting people and shopping around for a publisher is a tough job, not to be taken lightly, and a good agent with the right contacts and knowledge of all the pitfalls can make the difference between success and failure.
One word about ethics: there is nothing wrong with getting publishers and funding companies in competition with each other—it is actually the best way to go—but commitments are not to be taken lightly. Verbal agreements are binding. Do not promise something you can't deliver.
It is difficult for developers who are passionate about their product to change their focus from making the best game to making the most profitable game. However, remember: it is what investors expect of you.
References
[Laramée03] Laramée, F. D., "Writing a Business Plan for a Game Development Startup," Secrets of the Game Business, Charles River Media, 2003.