Backhand of Justice

Electronic Arts just released their earnings, and they were disappointing to say the least. As a result, they’re firing 1,500 employees (something in the range of 15-20% of the company) in the next few months, and cutting 1/3 of their planned releases. Any game that doesn’t have the potential to sell 2 million units is cut.

These aren’t the dregs of their studios either; EA Redwood (Visceral Games), EA Tiburon, Mythic, Black Box and Maxis are being hit. This includes games like Dead Space, Dante’s Inferno, Warhammer, Henry Hatsworth and Spore. Furthermore, Electronic Arts bought Playfish for nearly $300 million, adding the company’s social gaming lineup to EA’s existing Pogo.com casual games service.

While I couldn’t care less about the fate of studio employees, I do care about the outlook for games, and this isn’t good. Electronic Arts tried to be creative and that screwed them, so now the road is clear: more sequels, more casual games and most importantly, low-risk incremental release schedules.

What makes a game profitable?

There are several factors that influence profitability of a game, and sometimes they’re not that clear to consumers. At its simplest, it boils down to total sales compared to development cost, but what goes into both of those buckets? Marketing spend and delays contribute to costs more than one might think.

A game that takes 18 months to develop based on an existing engine with existing art properties can be more profitable than a AAA blockbuster that sells millions of copies if it took 4 years to develop from scratch with a team size in the hundreds and had a $25 million advertising campaign associated with it.

In addition, games aren’t linearly profitable. There are significant fixed input costs to the production and distribution of a game such that there is a threshold of sales at which the company breaks even and after that every sale is a high margin event. Gamers frequently imagine that a game that sells 2 million copies is twice as profitable as a game that sells 1 million, but in reality one is a huge success and the other a loss making effort.

$20 for a tractor? That's all? But they're so big. I was under the impression they were way more expensive!

Electronic Arts has made it painfully clear that even ‘successful’ games aren’t necessarily profitable, and the real money lies in decreasing development costs to the point where that break even sales number is a very low bar.

Look at Modern Warfare 2’s 1.23 million units sold in the first day in the UK alone, or more to the point, the way Final Fantasy VII is purchased repeatedly every time it’s re-released. Profitability is about guaranteed hits. This is accomplished through sequels, and through simplification.

Sequels and Casual Games aren’t going to cut it

So developers are going to be releasing Halo 15 and Modern Warfare 9 as well as the new Zynga social powerhouse: Barbershopville 9, or something. That’s not going to cut it with a significant part of the hardcore gaming crowd, and as we’ve seen in the recent consumer downturn, they’re the ones that keep spending regardless of spending environment.

I believe the solution is going to be games released piecemeal. While most would assume that the bulk of a game is developing the engine and mechanics, look at a game like Diablo III where they said last year they were feature complete. That is a game that will have a 5+ year development timeline of which more than half will be just building levels and balancing.

Fini$h £he Fight. Why is the t a pound sign? Nobody knows

Piecemeal release schedules is not the same as episodic gaming; the Penny Arcade or new Monkey Island episodic series had much lower ambitions. What I envision is more along the lines of releasing a 2-3 hour miniaturized version of the next ‘new IP blockbuster,’ instead of releasing a full game until an IP is proven as a franchise. If consumers eat it up you’ve found a new cash cow. If it’s a flop, however, the loss is mitigated due to the smaller investment.

Consumers will complain as they always do about changes in game distribution structure. They complained about Steam and how they wanted a full retail box (they’re still at it). They complained about DLC, both post release and day 1. I’m sure they’ll complain about OnLive if that ever gets up and running.

Modern Warfare 9 was actually the first game to be *entirely* day 1 DLC

Consumers forget quickly, though, and developer profitability determine what form game distribution takes. Inroads in this direction are already being made. Torchlight is releasing the single player game to support development of the MMO component. While it’s true that this is a much less ambitious game than a AAA release and Runic games has cash flow issues not shared by Activision or Electronic arts, it’s a successful first step.

Investors in companies like Electronic Arts or Activision will no longer support the needless outlay of their significant cash hoards on unnecessary risks, and at the end of the day, what the stockholders want is what the companies are going to do.

Electronic Arts had a brief flirtation with real innovation and since then their stock has underperformed Activision by 70%. It will be a long time before somebody else is brave enough to try again. I hope everybody likes Call of Duty and Farmville.