The Business of Games

Part I: Bandits and Pirates

From Atari to Zynga, the game industry has always been a hotbed for mind-bending stories. Let us start with just one. It was widely reported on the Internet, which means it might not even be true, but because it’s plausible, it demonstrates just how feverish the business has become and how much we as a people now covet the life-altering pleasures programmed into our games. At 8 a.m. on Nov. 6, 2011, a van carrying 6,000 copies of the latest release in Activision’s wildly popular Call of Duty video game series collided with a car on the streets of Paris. When the driver and a colleague stepped out of the vehicle to investigate, they were ambushed by two masked men armed with knives and tear gas. The thieves took their keys and made off with a cargo valued at more than $500,000. In the hours that followed, news surfaced of a second strike—also in Paris. Once again the target was Activision’s Call of Duty: Modern Warfare 3. The company had taken steps to hunt down pirated copies of the game, sending a team of mercenaries out across the globe to knock on doors and initiate the destruction of the contraband, but it had not, it seems, the foresight to deliver its treasured product in armored trucks.

No matter. When Modern Warfare 3 officially went on sale at midnight on Nov. 9, people were lined up outside the doors of 13,000 stores. Within five days, the game had logged $775 million in sales to become the most successful launch in the history of entertainment. Bigger than the Beatles, Harry Potter or The Avengers.

Now maybe you don’t identify with the Call of Duty crowd—the hardcore gamers who devote hour after hour of their free time to saving the world from imaginary foes. Maybe you studiously avoid the overtures from your Facebook friends to join the fun in FarmVille. Perhaps you even have resisted the army of Angry Birds plush toys that recently invaded America’s toy stores. But it’s hard to dismiss the great green wave of money—$3.75 billion—that was invested in the industry in 2011. Dean Takahashi, who has covered the business for 16 years for publications such as the Los Angeles Times and Wall Street Journal, described it not long ago in his VentureBeat column as the “biggest gold rush in the history of games.”

On Dec. 13, Asia’s largest online game publisher, Nexon, emerged from an initial public offering on the Japanese stock market with a $1.2 billion war chest. Three days later, in the most eagerly anticipated initial public offering of the year in America, FarmVille’s creator, Zynga, sold $1 billion worth of stock, pushing the firm’s value above $7 billion. According to Takahashi, another $1.5 billion in venture capital—divided among 145 companies—flowed into the arms of eager game makers in 2011. And that’s a remarkable achievement, given how reluctant venture capital firms once were to… well, roll the dice on game companies. Much like in Hollywood, the development costs for each new title had soared to such stunning heights ($40 million on average) that it was a nightmare to predict what the public would embrace. Better to simply release Mario Kart 7.

It took a genuine swashbuckler to put the anxious investors at ease. A man openly hostile to venture capitalists. A man with no experience whatsoever in game development. A man who—in his own words—“did every horrible thing in the book… to get revenues right away.” (He allowed predatory companies to scam his gamers with offers that featured financial obligations in the fine print.)

In 2007, Mark Pincus launched the company that demonstrated how the business will work for the foreseeable future. For decades, the industry giants in Los Angeles—Activision and E.A. Sports—had operated like movie studios. To create a game such as Madden NFL (which now includes more than 10 million lines of source code), E.A. hired dozens of developers and set them to working around the clock for close to three years. Pincus launched FarmVille in just five weeks—with fewer than a dozen developers. He saw the promise of social media platforms, invented simple games people could play with their friends, and monitored the online action with a Moneyball-like devotion to analytics.

According to Pincus, if players responded better to the brown cow, all the cows in FarmVille would be brown.

Because Zynga’s games were free, the audience grew quickly. Within three years, the company had registered more than 230 million players. Some 3 percent of them gladly coughed up a buck here and there for virtual goods. Those players now spend $3 million a day on Zynga’s crops and barnyard animals.

In 2008, the company generated $19 million in revenue. By 2010, that number had climbed to $597 million and venture capitalist John Doerr of Kleiner Perkins—an early champion of Google and Amazon—was making the rounds in Silicon Valley to sing Zynga’s praises. He called it the fastest-growing investment his company had ever made.