Does your studio have a future? Look at its business cycles to find out.

Risk and the Fate of AAA Game Studios

Recently, while speaking to game design students at the Cleveland Institute of Art, I was asked if I knew of any established AAA studios working on risky, new projects. I’ve been thinking about why my answer at the time was a firm no. Furthermore, the question has made me wonder whether or not studios, despite their current success, have a future if they are unable to change this. I came to the conclusion that weirdly interesting projects might not be necessary for AAA studios to survive, but the ability to risk the development of new businesses, at the very least, is a must. You’d be surprised how many studios cannot do this. Or perhaps not, given how many studios close every year.

First, some definitions

Business versus Company – There is a legal definition for each of these terms, but in this article, a business is activity that leads to a particular revenue stream. For example, a large business in AAA games is the creation and sale of packaged first-person-shooters. On the other hand, a company is an entity that conducts one or more businesses. For example, Microsoft owns businesses ranging from operating systems to video games.

AAA Game – Several definitions exist, some more formal than others. In this article, AAA is the label publishers and studios apply to a project they believe will be a critical success (high quality and polish), have technological innovation (graphics, gameplay features), and financial success (low-risk, high return). It must have all three qualities to qualify as AAA.  

Is traditional games development still relevant?

Html 5 and other cross-platform delivery systems are still several years away from producing games as reliable, performant, or rich as their native app counterparts. So it’s fair to say core game developers will continue to target native console and PC development for at least the first part of this hardware generation. According to the ESA’s 2014 Essential Facts report, physical retail video game sales represented 40% of 2013’s total US game software purchases; selling discs at retail is still a $6 billion dollar industry. However, the cost of doing AAA core games is reaching astronomical, perhaps unsustainable levels and developers need to know whether or not their studio is going to survive.

Still relevant, but healthy?

For dominant genres, such as shooters, we have already reached the top of their business curve. The numbers do not lie – take a look at these charts of known sales information for two popular shooter franchises. Even if there is debate regarding the precise numbers of units sold, the general trend is correct.

Call of Duty’s curve demonstrates that the business is mature and the publisher should be leveraging revenue from the business into a new one.

Halo’s trend is more concerning. Even after discounting Halo 3: ODST – due to its nature as an expansion, rather than a full release – the trend indicates that revenue has fallen since 2007. The business is in clear decline. While Microsoft has plenty of other businesses, it should have invested Halo’s revenue and IP in at least one new opportunity long ago – perhaps in the television programming business?

Sales are dropping, so if revenue is simply the number of sales multiplied by the average price per sale, then we know revenue is dropping. This will bring diminishing returns, if the price per sale did not increase or development costs did not fall enough to compensate for the revenue drop. In fact, I believe all three of these negative conditions exist – stagnant or dropping sales, unimproved base retail price, and increased production costs. Let’s look at some details.

•        Shooters have reached all the easy-to-get customers. Aging core gamers, soccer moms and children under 6 are going to be tough audiences to acquire for the next Call of Duty. As a result, most big publishers now place a significant push on sales-per-customer (e.g. limited editions and DLC), rather than just increasing the number of customers.
•        Declining product buzz. The industry has fallen a long way since Halo 2’s I-love-bees viral marketing campaign or the massive launch-day celebrations of CoD: MW 2 and Halo 3. Player fatigue has even reached mainstream media critics. Word-of-mouth and viral marketing has run its course.
•        Price competition. To prevent losing players to Battlefield, Activision cut the price of CoD’s Elite Service to zero. Furthermore, no publisher has been able to raise the price of their regular retail SKUs, despite rising costs, because of competition from free-to-play games and a saturated AAA market, where customers do not perceive increased value in a game, unless it is accompanied by extra physical merchandise or scarcity (limited editions).
•        The cost and complexity of development has gone up by an order of magnitude. Publishers have to fund multiple studios to keep up with their release schedule for a single game, Killzone 3 and CoD: MW III both required three or more studios to complete. Assasin’s Creed: Unity is going to require the work of ten to meet its schedule while controlling costs. Microsoft’s Phil Spencer has said Halo 4 is the most expensive game they have ever produced. Not to be out-spent, in September 2014, Bungie’s $500 MM Destiny may become the most expensive game ever made, period. (Disclosure: I was a member of Bungie for over 11 years, until late 2011, and believe the number reported is accurate.)
•         Required solutions for new or increasing technical challenges, just to stay afloat. Next-gen console owners demand more content on screen, requiring larger teams and more management expertise. Significant engineering effort must be devoted to increasingly complex graphics engines and online infrastructure. Despite being less profitable with each subsequent release, a popular game series may have a huge user base with enough toxic players to threaten the longevity of online play, which is crucial to keeping used games out of the marketplace. Developers therefore have to devote substantial resources on non-core systems, just to stay ahead of cheaters and misanthropes. But even honest, decent players are making the business harder, because they demand extensive metagame support – mobile apps, rich community tools, tournaments, daily challenges and other special events. These types of features have been around for a while, but now they have to satisfy a huge number of users, again with a certain percentage of toxic users to manage. All of this adds cost.

If these circumstances weren’t convincing enough, then also consider how much effort AAA companies spend to reduce the inflation of development costs. At the start of a technology or business curve, R&D losses are expected, as the company spends heavily to establish itself and pay the price of early failure. But, if a business is mature and is already in decline, then the business must cut costs to stay vital.

To know where a studio’s business lies, consider a few things regarding its current work. If a project defines a new genre or establishes an IP in untapped creative territory, then its development is part of a new business. On the other hand, if the developer is limiting risk – staying within familiar genres and themes, then it’s in a mature business. Does the production plan heavily rely on outsourced or contract workers? Or perhaps, the publisher has asked that a subsidiary in a less expensive location produce a lot of the content? (Disclosure: I was a Development Director II at EA Visceral; part of my job was to work with EA Shanghai’s art production team.) Are companies adopting middleware for major engine components or perhaps basing all their titles on just one or two engines? The answers to these questions indicate whether a company is trying to get a foothold in an accelerating new business or control costs in a mature one.

This is where publishers and development studios antagonize each other, despite being in business together. While a publisher is constantly leveraging the revenue, intellectual property, or technology from one business into another, developers often fail to do so for three reasons. First, if development goes long, a studio will often close or suspend their other business in order to keep a particular project on track. Second, the studio may have signed a contract that limits their ability to engage in other business. Or third, due to publisher or self-inflicted pressure, the studio stops pursuing a new business, or alters its plan until it is essentially in an old business. In such a circumstance, the studio is saddled with increasing R&D costs when it should have been cutting costs. Whichever of these circumstances may be, a studio in a mature business that is not creating their next game for less than their previous one is going to die. On the other hand, a studio that is aggressively cutting costs while investing in their next business has a chance of survival.

For the individual engineer, artist, or designer, the question is then: am I in a studio that has the freedom and resources to pursue new lines of business as soon as our existing ones bear fruit? Or, if you work within a large publisher, does the executive team give you a choice to join one or another team, should your current business go into decline? Conventional wisdom is often wrong on these issues – vaunted independent AAA developers may actually be doomed software factories, where developers are required to push content year-in-and-year-out until the publisher decides to take production elsewhere. Conversely, behemoth publishers lambasted for their heartless search for profit in a hard-pressed business may actually be a safer place to have a career in AAA games, due to their ceaseless creation of new businesses. You really have to know your company’s businesses in order to protect your career.

Every business goes through a life-cycle – even multi-billion platforms or franchises eventually fail; the question is whether or not you’re at a company that leverages the revenue from a healthy business into a new one that you can join when the time comes. If not, it may be time to start looking for a company that does.