Publishers: How the Drug Lords of the Industry Profit

A great business
Selling addictive substances can be a great business. You tend to have very loyal customers and steady demand.

Unfortunately, publishers are in the early days of the game market and competition is fierce. Those who understand the Business stand to make great profits and those who don't will simply be acquired.

Luckily, most game genres are not yet outlawed. Organized crime would make a killing if they got their hands into illegal game distribution. The rapidly growing industry of online gambling can attest to that.

Economic forces rule
Ultimately, it all comes down to economic risks and rewards for the companies involved in making games. Capitalistic forces have adapted to the fundamental nature of games and helped create the market system that we have today.

First off game making is a risky business. If you randomly put money into developing a game, you will lose your shirt since is has a horrible chance of making back money. Most games don't.

So instead, you play to win using the following strategies. If you look at Game Developer Magazine's "Top 20 Publishers" article each year, you'll see these patterns over and over again.

Strategy #1: Portfolio-based risk reduction
Publishers are the dominant force in our industry because you need someone who has multiple games on the market so that any one failed game won't tank the company. Or more importantly, you need someone who can field 9 games that fail and survive long enough to hit it big with that 10th blockbuster game.

Publishers exist because the market bankrupted the alternatives. They are a proven economically viable strategy for making games and aren't going to go anywhere anytime soon.

Strategy #2: Navigating the distribution bottleneck
Our industry is the proud supporter of a monstrous game distribution system. The problem is very simple:

• Retail stores have limited shelf space.
• Gamers buy 99+% of all games through retail stores.
• Stores stock their shelves based on whatever items sell the most at any one time.

The result: most games have extremely short shelf lives and only the best of the best (from a financial perspective) make it onto the shelves in the first place.

An amusing dynamic occurs with end cap promotions and overstocking. You've seen it before - the store displaying 20 copies of a hot game. For every extra copy of the game on that shelf, there is a game that did not get funded by the publisher. There simply wasn't enough space to sell it.

Strategy #3: Portfolios heavy in 'proven' products
Publishers create a portfolio that is heavy with lower risk products that are guaranteed to sell a minimal amount. This reduces the overall risk of the portfolio.

Strategy #4: Higher per product development costs
The overwhelming profit margins that come from having the top product in a particular genre encourages increased spending. If I only have to spend $10 million more to ensure that I have the top FPS for the Christmas season, I'm going to do it in a heartbeat. If I can release Halo 2 with a first day earnings of $125 million, my investment was well worth it.

The result is that costs escalate dramatically from generation to generation. My competitors will drop $15 million on their next title in the hopes of beating my $10 million development team. Naturally, the only course of action for me is to spend $20 million. And the cycle of spiraling costs continues.

Strategy #5: Minor investment in experimental genres
The press and gamers always moan that there aren't enough experimental games. The reality is that many publishers would go out of business if it weren't for their investments in new genres and franchises.

A new genre is the equivalent of a new drug line for a pharmaceutical company. Sims, GTA, Tony Hawk, Ultima Online, Tomb Raider, and Dune 2 were all genre busters funded by major publishers. These genre busters ended up contributing massively to the economic success of the publishers that created them.

So innovation will never die. It will, however, slow to a trickle. The owners of innovation in this industry are portfolio managers that err on the side of caution. For every 1 game that takes a risk, you need 10 or 20 games that are surefire money makers in order to balance the portfolio's total risk.

Strategy #6: Culling of genres past their prime
Since shelf space is limited, every title a publisher funds has a very clear cut opportunity cost. Publishers will generally select a potential hit in a hot genre over a potential hit in a genre that is past its prime.

It is often financially better for a publisher to fund an additional FPS then it is to fund a turn-based strategy game. With an additional FPS title, the publisher increases their chance of getting a mega multi-million copy hit in a big market segment. If they get a big win with the turn-based strategy game, they'll at best move a couple hundred thousand units. Why even bother?

Best to stop investing in the genre completely.

Strategy #7: Consolidation
This is probably the timeliest topic considering EA's latest moves. Since game publishing is a high risk business with a reliance on proven product lines, there is very high cost of market entry. Little publishers don't have much chance and it is very rare to see new publishers entering into the market. In light of the continual king-of-the-genre battles that occur with each product launch, less competition is always better.

These factors lead towards a strong consolidation trend amongst publishers.

• Publishers buy out other weaker companies to gain access to their proven titles, brands, and development teams.
• Over time, the market entry barriers become more intense and there are fewer and fewer publishers in the mix.

The Role of Game Developers in the Drug Trade