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What’s the future for Game Development Studios?

(this is part 2 of Publishers are from Mars, Developers are from Venus)

Last time I said that “good Developers are very similar to Valley Technology Startups”, which suggests one obvious way things could develop:

Publishers to become Venture Capitalists; Developers to become commodities

In this model, the Publishers spend their time “speculating” in Dev studios: instead of buying a studio in order to own the output of that studio, you buy it with the intent of later selling the studio itself at a profit.

This is a good model; as I first heard from Jack Lang, at one of the Cambridge Enterprise Conferences many years ago:

“The best way to get rich is by buying and selling things. Preferably companies”

IIRC it’s a quote that’s been around for a long time, but I can’t remember where the original quote came from, unfortunately.

(of course, this observation is why Publishers are box-shifters in the first place: simply buying and selling things is an easy, fast, stable, sustainable way of making a very large amount of money. It’s not particularly creative, perhaps, but it’s a very efficient way of generating profit, and lets you leverage your resources/cashflow way above the profit you would generate simply from manufacturing your own goods and selling them)

The real beauty of this is that – as Jack’s quote illustrates – a Publisher and a VC have very similar fundamental business models: they buy stuff that they have no intention of using themselves primarily to sell those things at a profit to other people. In both cases, the less time the company can hold onto the products, while getting the same price differential between purchase and sale, the better. What is a VC? A VC is just a higher-value version of a box-shifter. So, for a Publisher to diversify into being a VC may not be so difficult…

As someone who’s been through the mill of raising finance for startups before, I’d also like to add that “funding game development” is commonly thought of as having no equal in risk and unpredictability – save “providing venture capital for a new startup”. The hardest part of being a VC – the insanely high risks involved – is bread and butter for Publishers, who routinely spend tens of millions of dollars on stuff they don’t understand, cannot effectively control, and cannot reliably predict!

Studios would find that:

  1. Publishers would look after them more – you don’t want to harm something you’re planning to sell
  2. Funding and marketing decisions would be driven more by what was in the interests of the studio rather than the Publisher’s marketing dept or cashflow
  3. Publishers would stop being stupid about trying to “reduce costs” of development purely for the sake of it
  4. Publishers would be a LOT more interested in supporting and creating external partnerships for the studio, especially where those partnerships involved competing publishers or their subsidiaries (because that would make it easier in the future to sell the studio to that competing publisher), which would help reduce development costs (a little) and increase productivity / quality of working environment (probably a lot more – publishers usually consider this too little justification for allowing such things)
  5. If the publisher got cold feet about publishing a certain game and it was far advanced, they would push for POSTPONING it rather than RUSHING it – they’d rather sell the studio BEFORE it publishes the game, and “price-in” the potential of the game than sell AFTER the game had launched and flopped
  6. The publisher would push harder for maintaining quality standards of the games output by the studio – they have literally invested in the brand of the studio, a brand they are planning to build up in value as much as possible, before selling

Publishers would find that:

  1. Development costs would no longer mar their balance sheets and make their financial performance look bad; the offset of being able to mark the studio as a sellable asset with a quantifiable value in excess of the money being poured into it would make it all smell sweeter to shareholders
  2. There would be less friction with studios, leading to better communication, less frustration, and probably better overall quality of product – and hence, more profits
  3. Studios could safely be given more leeway to make strategic business decisions that were “right for them”, offering the possibility of mega-wins for the publisher whenever those paid-off (e.g. the decision by early FPS developers to not only allow but encourage modding was enough to terrify publishers even today, and yet a massive win in sales and profits), but also to not have to take responsibility – and blame – when they failed; this would all be priced into the “value” of the studio as a separate, tradeable, entity
  4. If a studio made some bad strategic decisions that led to commercial failures, that might actually INCREASE its tradeable value, if the market perceived that the studio had “learnt” significantly from the mistakes; potentially, such increased value could completely offset the actual financial losses incurred from the mistake

A practical example

I’m just pulling this out of thin air, trying to think of a studio that many years ago was worth something, got acquired, went internal, and now is probably worthless. When EA bought Westwood Studios, one of the things they paid for was the brand; how much value did they really extract from that brand? How much value does it have *today*? Today, it’s probably next to none – customers don’t care, and other games industry companies all know that the real meat of Westwood Studios (the staff, the equipment, the processes) was disbanded shortly after being bought by EA. Could they have made more money by promoting and protecting the WS as an owned-but-independent studio? If they’d taken that route, and even if they had made less money than they have with the route they chose, would it be more than made up for by the fact that they might be able to sell WS right now for, say, a couple of hundred million dollars – if only it still existed as more than a name?

And why not?

But this isn’t the way Publishers work right now, so … where does this plan all go wrong? Why hasn’t it happened already? What might prevent people from trying this?

1. Cojones

At the moment, the funding decisions that Publishers make are so distantly removed from the actual point of capitalizing on them that it’s quite easy for the people making the funding decisions to blame many other departments and personnel within their organization should the investment go poorly. Indeed, this plausibly deniability, this easy abrogation of responsibility by the decision makers – and the great distance between them and the people actually implementing the game – are root causes of a lot of the practical problems in the Publisher/Developer relationship whenever they do “external” publishing (i.e. publish a game made by an independent / external studio, as opposed to a wholly-owned internal studio).

A lot of the benefits for the New Way cited above stem from removing that indirection; that means a bunch of people making hundred-million-dollar decisions would be exposed to rather more scrutiny and responsibility than they hold right now. I’ve heard people (usually the ones who don’t really understand VC’s, have acted naively or foolishly with them, and come away poor and bitter) describe VC’s as “arrogant”, “bullies”, and “too demanding”; while I don’t agree with that, just think how you’d act if you were the named individual responsible for a handful of $10million investment decisions, and how that might come across sometimes. Could the individual people working for Publishers accomodate such a change? If they were content with that level of personal exposure to risk, would they be working in the games industry, or would they already be working in the higher-paid VC industry?

2. The Art of the Sale

Another issue is that the success of selling a studio depends on, well … your ability to sell!

Publishers do not, generally, have any experience of selling companies. A publisher might spin-out or sell off one division every decade, at most – and many of those are instigated by the division itself (management buy-outs), or are fire-sales (find a buyer at any cost, no matter how low). They don’t have staff who are experience in doing this, they don’t have any contacts suitable for doing it, and they don’t (generally) maintain the level of immersion in the marketplace of studio buyers to be able to setup great deals when selling on a studio. Look at how much time the individual staff at VC’s spend purely “networking”, both looking for things to invest in (new purchases), but also looking for, befriending, understanding, and keeping up to date with the needs and desires of potential buyers (people who might acquire some of their portfolio).

3. Organizational Change

Lastly, have a look at the typical VC organization – a handful of Partners (maybe half a dozen people who make investment decisions), a handful of Entrepreneurs in Residence (EIR – maybe one or two domain-experts who make recommendations and help in due diligence). This is enough to manage billions of dollars of investments.

Now look at the typical Publisher organization – 50 people in each of marketing, customer service, and sales, perhaps 15 handling external develoment (finding and making development/publishing deals), and another 10-50 people in internal support roles. This is enough to own 1-3 development studios.

This isn’t to say that Publishers would need to downsize. Rather, it’s to point out that if the external development side started doing sales of studios for as much as $100million a time, their revenues and profits would suddenly massively eclipse (20 to 1, perhaps even 200 to 1) the whole of the rest of the organization, despite being outnumbered more than ten to one. Sooner or later, the “rest of the organization” would become politically weak and subservient to the massively profitable “trading in ownership of development studios part”.

The VPs of the current departments may well find that the total pie they’re sharing in becomes much bigger, and much more than makes-up-for the fact that their slice has got smaller, but will they accept their slice going from being a “Vice President” sized slice to a “Operations Manager” sized slice?

A few little Notes…

1. When I wrote Publishers are from Mars, Developers are from Venus, I had *no idea* that NCsoft had just decided to shutdown its European development studio, and make a swathe of redundancies in European publishing. Sheer coincidence, and sad for a lot of people involved, but very interesting nonetheless.

NB: if you work for a publisher or developer and are interested in picking up any of the good NCsoft Europe staff, especially development, QA, localization, and customer support – and you have jobs in or within commuting distance of Brighton – let me know. Lots of people are suddenly looking for stuff to do next…

2. I said that “Developers exist to make a loss, every day”, and some people questioned that.

Yes, I really mean this: the more they spend, the greater the potential profit, and they should be maximizing their potential profit. Obviously, there is a point of diminishing returns, but generally speaking whenever you have an R&D lab, you want to pump as much money into it as you can possibly spare. Generally, R&D labs are rather good at soaking up almost infinite amounts of money.

Compare the revenues and the expenditures of, say, GTA IV with those of Bookworm Adventures. The latter may have been much much more profitable in percentage terms, but the former made a bigger amount of money overall. Often, the sheer amount of money you make is more important than your profit percentage.

3. I decided to write these blog posts after a comment I made to Steven Davis about the problems of publishers owning development studios, which he replied to with “Actually, the publishers should fund these things like a movie studio or VC. Let them be independent, get them off the books, and use your money to control distribution or via publishing rights.”

I’d been thinking along similar lines, but I also realised I saw some big problems with the approach, so I thought it would be interesting to explore in more detail. But if he hadn’t made the comment, I probably wouldn’t have got around to it :).