While investors in the casual gaming space might be familiar with the first two companies ZNGA and GLUU (and additional ones not listed publicly such as King Games, Supercell or Rovio), they probably didn't know about the third name until a few days ago:
Dong Nguyen is an independent game developer who managed to break into the top ten game downloads on both Android and iOS platforms:
...an independent developer in Hanoi, Vietnam named Nguyen Ha Dong. His Gears game studio consists, up until now, of just him, and yet it now has three games in the Apple App Store's top 10 rankings-a first for an indie developer. In the number one ranking is the winged flagship of his fleet, a maddeningly simple and challenging game called Flappy Bird (...) Currently in second position on the App Store rankings is Dong's soccer game, Super Ball Juggling and in sixth position, his martial arts-themed splatter fest, Shuriken Block.
Dong admitted that "The popularity could be my luck," in a rare interview with Chocolate Lab Apps. There are some reports of a viral Twittter app review campaign that may have fueled the app's downloads, but the fact that Dong has two other successful games with no built-in cross promotion between them indicates to me that it is his overall approach to games that is having its moment. It will be interesting to see how he scales this simplicity.
Why did I bring up this "Flappy Bird" example? There are several success factors for the entire casual gaming space here:
- A low cost structure is often key to success in the sector. Some of the most successful games are literally done in a dorm room or a flat by a handful of developers, some even working part-time at first - note in contrast that ZNGA still employs well over 2000 people even after the latest round of layoffs (!)
- A simple, addictive game often trumps marketing efforts (viral mouth-to-mouth or tweets and other social propaganda trumps large advertising efforts and levels the playing field for small and indie developers - the giant marketing campaigns needed for "AAA"-console titles sold at $60 simply aren't cost effective in free or freemium games).
- A good dose of luck but often only 15 minutes of fame (timing and viral success can come and go overnight when fickle customers move on to the next addictive title, the half-life of these games is quite low. This is of course not good for investors as it reminds them of the movie business - the only safe part being sequels, even if they are horrible. It's notoriously difficult to come up with new IP that is a smashing success - hence companies like ZNGA were more than once accused of cloning competitor's game ideas in the past.)
Summary: These key success factors in casual gaming don't bode well for the large studios with traditional cost structures.
It's very rare (Angry Birds by Rovio is one example) that such games can be made into a franchise and the IP can be extended - or monetized and "milked", to use a less favorable term - over several games and other media (merchandise and movie licensing etc.).
Looking at a company like ZNGA, I still don't know how they deserve the current 4 billion USD market cap - especially since their latest move into casino and online gambling stalled. Compared to sector peer GLUU - not a slouch in stock performance either in early February 2014 - ZNGA still commands about 10x the market cap of GLUU.
I would stay away from most casual game companies as competition is heating up
- Similar companies (like King Games) may soon file for an IPO
- "Traditional" game publishers like EA (one dedicated to physical games only sold in stores) and others formed small subsidiaries to compete in the sector
- Small, indie developers can create formidable games at a fraction of the cost in this new brave new world of gaming: The barriers to entry are very small to create a surprise hit. But it's very hard to consistently repeat that feat.
PS: Needless to say this new era of free/freemium and digital distribution also means that the future of physical game outlets like Gamestop (NYSE:GME) looks very bleak in my opinion in about 5-10 years from now. Please refer to earlier Instablog entries for more details.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: I might add short positions in ZNGA in the future