Video Game Subscription Models: A Significant Strategy

by: Steven Mallas

Video game subscription models could be very significant drivers of value for the industry.

Microsoft, Nintendo and Sony can all benefit, as well as other companies.

The key is this: Unless you have a lot of games from a lot of platforms, it might not be feasible.

I've been reading headlines about video game subscription models - pay a monthly fee to have access to multiple titles. The main comparison that is made about this concept is with Netflix (NASDAQ: NFLX). It's a fascinating idea that could mean a lot to Microsoft (MSFT), Nintendo (OTCPK:NTDOY) and Sony (SNE). However, if you want to be the Netflix of video games, you've got to either go in all the way or don't go in at all (i.e., monetize libraries utilizing a different method).

I suppose saying don't go in at all might be a bit of an exaggeration since there are various ways to go about this, but as it concerns subscription models for video games, I will once again repeat the complaint that everyone has about Nintendo's Virtual Console, which is a service that sells older games for download - a truly successful model of selling games for download (or games in a Netflix manner) should contain a wide assortment of product that includes third-party software and should encompass the vast majority of titles that were ever available on the platform and/or brand.

What do I exactly mean by this? The ideal would be that every game that ever existed on the Nintendo Entertainment System would be available to play on a Nintendo subscription service. This would be vastly different from what is currently in the works. Nintendo has a hit on its hands with the Switch console, and it is planning a paid online service for $20 per year in 2018 that will allow users, among other features, to download library titles.

Problem is, I am going to assume that it will be the usual suspects - Super Mario Bros., Donkey Kong, Castlevania, etc. In fact, this page at the Nintendo site suggests as much. That's fine, but it probably won't go far enough. As an example, it would be great to play NES titles The Adventures of Bayou Billy. Or The Addams Family. Or Super Pitfall.

This would be a tall order, certainly. Take Microsoft's new Xbox Game Pass offering for its console. That has over one hundred titles for a user to access. Again, though, it may not be enough. To truly be a Netflix-type service, a major investment will be needed. Let's think of the Netflix model for a moment - at its basic core is the concept of overpaying for content and sacrificing current cash flow with the expectation that, over time, increased subscriber numbers will turn the tide and turn the model cash-positive.

That's the belief of Netflix management, and it may or may not happen (count me in the camp that is speculating that it will happen because I am long the stock and am willing to wait). Microsoft may want to consider investing a significant amount of cash into the service in an attempt to capture all kinds of licenses for rare titles.

And this would include games from other platforms as well. Could Microsoft, as a thought experiment, license The Blues Brothers game that appeared on the NES? What about that Angry Video Game Nerd favorite Dr. Jekyll and Mr. Hyde? How about some of those crazy-hard LJN titles like Friday the 13th and Back to the Future? You see the problem, I'm sure. It would be pretty expensive to license these games because not only are you dealing with owners of the source code, but you are also dealing with owners of the IP upon which the programs were based.

Obviously, Nintendo would be reluctant to license its first-party titles to other systems' subscription services, but the owners of the third-party properties would probably be game... for a price. To build out a proper subscription service with a deep offering, the owners would want significant money for rights - after all, even if only a few users play Back to the Future, the mere fact that a game like that is even available confers a lot of value to the service and helps in the accumulation of brand equity in the marketplace. You'd have to overpay for that (especially for something based on IP that Steven Spielberg helped to usher into existence).

Why should a subscription game service that wants to emulate the Netflix model stop at video games? I foresee a shift in that thinking at some point. Media companies like Microsoft and Sony have access to movies and episodic content, and sell such content on their console ecosystems. It isn't a stretch to suggest that Microsoft and Sony will eventually have a service that encompasses games and filmed-entertainment assets. Again, though, cash flow is going to take a strong hit, and patience will be required.

It's been said that, as time goes on, console makers might eventually go to a model where physical media is not as relevant to the upgrades; instead, gaming content would be delivered digitally. Perhaps we are seeing that kind of switch starting to occur, although I don't think physical media will go away. Instead, my sense is that digital will become increasingly important and that there may be different models of consoles offered, some of which will be digital only. In all cases, there probably will be a subscription offering.

Let me return, for purposes of emphasis, back to the depth-of-catalog issue. When Nintendo released its plug-and-play Classic device back in the fall, the success was immediate; consumers wanted to own and play those games. They wanted more, though. Nintendo's Switch online service would be a perfect platform on which experimentation can be performed in terms of licensing rare titles from third-party companies.

If users could play NES/Super Nintendo Entertainment System/Nintendo 64 titles, then the price for full-year access would be a lot more than twenty bucks - you'd be talking probably ten times at least until a critical mass of subscribers emerged.

Nintendo, however, probably won't become that aggressive in the short term. Microsoft certainly has the money to bring all sorts of games from many historical platforms - in this era of Atari/Colecovision Flashback consoles, the software giant would be wise to explore figuring out a way to bring the 2600 E.T. game to Xbox (as well as others like it). There is value in the legacy of the video game industry, and it is oftentimes celebrated on YouTube in demonstrations of classic titles.

Like I just said, I think Nintendo will go slow on investing in its subscription offering. The company has had some recent failures (e.g., Wii U) but it is on something of a comeback. Microsoft wants its Game Pass to be viable over the long haul, so I hope to see significant investment in gaming content (as well as other content). Sony should definitely get going on offering an answer to Microsoft's initiative (something beyond its PlayStation Plus product).

All of these companies, however, will be distracted as they work on new console technologies. Obviously, that's important, but it's possible to do two things at the same time, and bolstering nascent video game subscription models should be at the top of the list as people get used to subscribing to libraries (because of the Netflix effect) instead of buying one game case at a time. Potential beneficiaries in such a shift would be publishers such as Activision Blizzard (NASDAQ: ATVI) and Electronic Arts (NASDAQ: EA) as they own libraries to license.

Console makers are usually either buys/holds based on other criteria as they are part of bigger entities (although Nintendo is starting to look interesting, I'm not a buyer yet, however), but it's interesting to note that Sony and Microsoft should do whatever they can to add value to their gaming divisions in case they ever want to do a spin-off of the assets (in which case a subscription model would probably be more important than new hardware in order to drive shareholder value of the spin-off).

Disclosure: I am/we are long ATVI, NFLX.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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