Every month the NPD Group, a market research company, publishes widely followed data on video game sales in the United States. Recently the data has been increasingly bleak, but there are significant factors that undercut the negativity of these reports.
But before exploring these issues, it is important to have an understanding of what the NPD data is. The NPD Group collects data from major retailers each month, compiling it to identify sales quantities and trends in the United States for the video game industry. To view much of the data requires paying a significant sum of money, but they publicly release total sales - which they separate into hardware, software, and accessories - and the sales numbers for game consoles and the most popular video games.
Hardware Sales includes all game consoles and portable devices sold, though computers, tablets, phones, and other multipurpose devices are not included because these items are not primarily bought for their gaming capabilities. Software Sales includes all of the games sold on all systems, but online purchases, downloadable content, and subscription fees are not counted despite being a significant source of revenue. Accessory Sales includes all of the peripherals (e.g. controllers, microphones) that are sold.
The chart above shows the year-on-year changes in monthly sales since October 2007. It does not look good - since January 2009, only nine months have shown positive growth. This has resulted in the total annual sales falling from $21B in 2008 to $17B in 2011.
This data, however, fails to account for the natural lifecycle of video game consoles, ignores the distorting effect of the Nintendo Wii, and does not include a significant portion of the market: downloaded games, downloadable content, and subscription fees.
Hardware Sales as a Proxy
This article first examines Hardware Sales to explain the overall trend, despite this category roughly constituting a third of the total sales.
The hardware is the core upon which the gaming experience is based. If consumers quit playing on a specific console causing sales to decrease, the sale of associated games and accessories will also decrease. This leads to game developers shifting to creating games for more popular consoles, giving players further incentive to quit purchasing the console. Therefore, by examining shifts in Hardware Sales, we can gain an understanding of the overall sales trends.
Game Console Life Cycle
Just like any other product, video game consoles have a natural life cycle. Historically, annual sales of video game consoles peak between their third or fourth year then fall fairly rapidly before ending their life cycle after six or seven years (Sony's PlayStation being the exception - on sale for 9 years).
As shown in the charts above, this generation of systems has followed a slightly different lifecycle. While the Wii, DS/3DS, and PSP have shown standard behavior, the PS3 and Xbox360 have continued to increase their sales through their sixth and seventh years, respectively.
The sales increases by the PS3 and Xbox360 are driven by continued innovation that the Wii has not experienced. While the Wii introduced entirely new demographics to video games, it has remained more or less the same for the past six years. The other two consoles, however, have introduced new elements - such as Microsoft's Kinect and Sony's PlayStation Move, support for stereoscopic 3D movies and games, and multiple console versions. More importantly, both have created online player networks that give players an incentive to both return to the system and get friends to purchase and play their own system.
From this, we see that it is reasonable that hardware sales have decreased over the past several years. That PS3 and Xbox360 sales have continued to increase during this downward trend indicates an inordinate effect from the decline of the Wii and portable systems - though portable systems, being half the price of consoles and having followed a standard life cycle, are not noteworthy.
The Wii Effect
The Wii, in many ways, revolutionized the game industry by increasing the appeal of video games to demographics that had never before been interested. In introducing motion control and casual titles such as Wii Sports and Wii Fit, Nintendo made video games accessible to everyone.
This led to a bubble-type situation that was driven by the Wii becoming a fad - then fading just as any fad naturally does. How many people have dusty Wii Fit Balance Boards safely tucked away under their television? This was exacerbated by the dearth of popular games being published on the Wii after 2009.
And the sales data reflects this. There was only one month prior to March 2009 that did not show year-on-year sales growth - and this month of decline was largely due to console shortages after the holiday season. Since then, only seven of the thirty-five months have shown positive year-on-year growth.
This lifecycle trend, as explained previously, is fairly standard for a video game console. But the Wii raised sales numbers of the overall industry well above natural levels for several years, leading its decline to mask the increasing sales of the other two consoles. This has caused the NPD data to reflect poorly on the entire gaming industry.
Online Game Sales and Downloadable Content
The biggest fault with the NPD video game data is that it has failed to keep up with the changing industry. Video game content is shifting from being sold through retailers to being purchased online. Downloaded games and in-game tokens account for nearly all of the casual gaming market and an increasing portion of the traditional game market. Traditional game developers are also creating increasing amounts of downloadable content that can be purchased to extend the depth of a game. Player networks, such as Microsoft's Xbox Live and Sony's PlayStation Network, are increasingly including subscription memberships that provide additional services and content. Each of these represents a major stream of revenue that is not included in the main NPD figures.
Online sales have grown massively in the past few years both as the casual gaming market has grown and traditional models have changed. Little argument needs to be made for the importance of casual gaming in current years. Just look at Zynga (ZNGA), which had over $1B in revenue in 2011. For a time there was a distinction between traditional game developers and casual game developers, but this line has become ever more blurred. Electronic Arts (EA) became the second largest casual game developer in late 2011 after its acquisition of Popcap Games. That these games are usually played in a browser or downloaded onto an iPad and therefore not counted hides a significant amount of strength in the video game industry. But this is not only true for casual games; traditional games are commonly being sold by the developer and directly downloaded by the player - look at the rumors that the next Xbox may operate solely through online distribution. (Note: Online sales, in this sense, does not include sales of traditional boxed video games through Amazon (AMZN) or brick and mortar stores' websites.)
Downloadable content, which adds on to existing games (e.g. new maps, costumes, vehicles), has become a significant source of player involvement and revenue for nearly all game developers. For an idea of the amount of additional content that can be bought and the caliber and popularity of the games with which it is associated, go to the add-on sections on the Xbox Marketplace or PlayStation Network. Much of this content is only a dollar or two, but some can be as expensive as $25. This adds significantly to both the amount of revenue and lifetime of the revenue stream.
The player networks provide a reliable and cheap source of income for companies. Xbox Live Gold, the subscription service to Xbox Live, costs $60 per year and there are roughly 40M paying and nonpaying members. PlayStation Plus, the subscription service to the PlayStation Network, costs $50 per year and there are roughly 90M paying and nonpaying members. Activision Blizzard (ATVI) has recently launched their own network - Call of Duty: Elite - that offers many of the same services at $50 per year and with 7M unpaying and 1.5M paying members.
It is worth noting that much of this data is collected and published but it is counted separately and receives less publicity. NPD recently estimated that online sales, downloadable content, and subscriptions yielded $7.24B in 2011, while traditional sales for that year yielded $17.2B. This is substantial and should not be held separate.
It would be naïve to say that the video game industry is vibrant, but it equally cynical to say that the video game industry is moribund. A more accurate characterization is that the industry is changing and at a low in its traditional cycle, while a common metric - the NPD video game sales data - has failed to keep pace.
But the NPD Group is not the only laggard: companies such as Sega have failed to change with the times and are now suffering for it.
Companies that have adapted, however, are doing well. The Xbox360 and PS3 have had growing sales. EA is on track for stronger annual results than it has had in several years, ATVI's FY2012 was a strong success, and ZNGA has continued its rapid expansion.
Simply put, look beyond the basic numbers. There are successful video game companies and unsuccessful video game companies - and an aggregate report with numerous deficiencies does not accurately portray these nuances.
Note 1: Due to the limited data that is released by the NPD Group, I have had to make several estimates. These estimates have been limited the number of video game consoles sold, particularly the portables during the past year. These estimates have not changed general trends.
Note 2: NPD data was collected from the monthly reports from gamasutra.com and vgsales.wikia.com.
Disclosure: I am long ATVI.