Friday, 31 December 2010

International growth opportunities for Chinese video games companies

This article, written by Tim Merel, first appeared in the China Daily on December 31, 2010 under the title "Global games there for the taking".

The global video games market is growing rapidly, driven by online/mobile games. China has produced some of the world’s best games companies, which are now looking to international markets for additional growth. This offers a significant opportunity, but investing internationally isn't as simple as they might hope. To explain why, let’s start by looking at the global market.

A great market for Chinese games companies

The video games industry is big, getting bigger and changing, rivalling Hollywood in 2009 ($77B video games vs $85B film global revenue). Online and mobile games should grow total video games market size to $87B in the next five years, and take 50% revenue share at $44B (18% CAGR 09-14F). The historically strong pure console sector is flat to down.

Asia Pacific and Europe should take 90% revenue share for online and mobile games (China 49%, Europe 17%, Japan 14%, South Korea 11%). While North America remains important, the dominant market for online and mobile games is and will be China. If you want to be in online and mobile games, if you aren’t in China then you aren’t anywhere.

Friday, 24 December 2010

Online gaming giants target China

This article by Eric Jou first appeared in the China Daily on 24 December 2010.

The Chinese video game industry is growing up and changing the face of the gaming world.
"The Asia-Pacific region and Europe should end up taking 90 percent of online and mobile revenue," says Tim Merel, founder of the London-based digital media investment firm Digi-Capital. "If you aren't in China, you aren't anywhere."

The Chinese online and mobile gaming industry is expected to earn more than 28 billion euros in revenue by 2014 and China will account for half of that pie, figures from Digi-Capital show.

China is expected to drive the future of the industry and figures from China game industry analyst Nico Partners also see the market growing by 20 percent a year for the next four years.

Similarly, China's online and mobile gaming market promises an estimated revenue stream of $6 billion (4.56 billion euros) this year and projected revenues of $18 billion by 2014, compared to the $2 billion and projected $3 billion for the United States.

Lured by the huge potential, more European game makers are looking to set up their bases in China.

One of them is European game publishing and developing giant Ubisoft.

The France-based Ubisoft is one of the largest game developers and publishers in the world and is best known for the hit Tom Clancy games, Assassins Creed, and Rayman Raving Rabbids.

Ubisoft set up shop in Shanghai in 1996 and Ubisoft Shanghai has been cranking out game after game for its parent company.

Ubisoft established its Shanghai studio to globalize its workforce, says Corrine Leroy, managing director of Ubisoft Shanghai.

"We came to China for two things. One was to publish our games in Chinese," Leroy says. "Two, we were developing part of the game and some games for the whole market."

Leroy recalls how hard it was for her and Ubisoft to recruit talent during the initial establishment of their Shanghai studio.

"The people were less trained. At that time when we were recruiting artists, we had to train them to use 3d max (an auto desk software). But now when we recruit, even if they are junior, they have already used this kind of software," Leroy says.

"It went from extremely basic because those guys had nowhere to find us, they had no way to get trained in tools in university. But this lasted only two years, and after that, when we recruited people, they were already using the tools that we use in the industry."

The industry has grown on the back of foreign companies such as Ubisoft investing in the Chinese market and training developers. Starting with outsourcing and development for hire, Chinese game developers have begun building their own gaming brands.

But the industry only really took off around the year 2000, amid the South Korean online gaming boom, Leroy says.

Console and offline games also never really boomed in China because of the high prices of consoles were sold, and online games grew through that opening.

"There wasn't really a market to create games for Asia, it grew only because South Korea's government, a little over a decade ago, decided to invest a lot in online gaming," says Richard Tsao, managing director of Ubisoft's Chengdu business.

"Online gaming became very popular in South Korea and then Chinese operators started to see the value of licensing games from South Korea to operate in China, so the online gaming industry in China took off."

Still, the Chinese market faced other barriers. Gaming consoles subsequently became illegal and the only channel to distribute video games was through online operators, which take a huge chunk of the profits.

Foreign developers also have to cooperate with local companies to publish their games and this union usually happens with local Internet giants such as Tencent.

"We have no choice," Tsao says. "If we want to operate games in China, we have to work with Chinese operators."

According to figures from Digi-Capital, Internet penetration within China will be a key factor in the development of the gaming market and many foreign companies are eyeing a piece of the action. Internet penetration in China is currently 29 percent - or 384 million users - and is expected to reach 56 percent or 754 million users by 2014. That includes mobile Internet users. The pie will generate up to $18 billion by 2014, figures from Digi-Capital show.

The Chinese market's emphasis on online gaming is also changing the face of the industry, with piracy less of a major issue, analysts say.

Evolving from just mirroring South Korean online games to producing their own, Chinese companies have helped spur the growth of free-to-play models or f2p, in which game transactions known as micro transactions provide the income to game makers. These micro transactions act as a form of money-making in place of offering a game for free.

"What is happening now is that the government, particularly the Shanghai municipal government, is making it easier for companies to register intellectual property," says Zhang Ming, deputy secretary general of government agency Shanghai Information Services and vice-president of UBM China, which is under the Ireland-based United Business Media (UBM).

"There are a lot of games in the market now that don't care about the piracy, halfway through the game micro transactions offer you opportunities to advance in the game faster or game goods by paying for these with real-world money."

"Game makers can say, 'Go ahead, pirate our games, you are just giving us free publicity, we'll make our money through people playing our free game and purchasing game goods'."

Micro transactions, prominently featured in social network software games such as Farmville and Happy Farm, is a symbol of how ahead China is compared to the West in online gaming, analysts say.

"China is evolving the online gaming market better than any other country in the world," Tsao says. "The West is slowly catching up to the concept of online gaming in general. China has close to a decade more of experience."

Another technological improvement that is growing the video gaming industry is the advent of the Apple App store and the proliferation of smart phones, analysts say.

With the mobile phone gaming market expected to generate half a billion euros this year and close to 1.1 billion euros in the next five years, China is also becoming the home of hundreds of independent game developers working for the mobile market.

Even Rovio, the makers of the runaway hit Angry Birds, has set its sights on the Chinese market. Peter Vesterbacka, who is in charge of business development at Rovio, says it is hard not to see someone playing Angry Birds on the subway in Shanghai. According to Vesterbacka, Angry Birds is only available in China officially via iTunes and Rovio is in talks with operators on bringing the game officially to the Chinese mainland.

This kind of mobile Internet distribution system bypasses the problem of the online operators in China and is proving to be a new form of distribution, resulting in an increase in the number of smaller foreign companies coming to China to create games.

Smaller developers and companies that may not possess the investment capital of big companies also head into China making games with cheap talent and using the new distribution channel created by the iPhone to sell their games back to the West.

Happy Latte is one of such company that operates in China but focuses and sells its products in the West.

"Honestly, we don't even target China as a market, our games were not even available at the beginning in China," says Bjorn Stabell, managing director of Happy Latte.

"We were doing something for RenRen (Chinese social networking service) but we found it not as open as Facebook and the Apple App store."

Despite the seemingly closed market, it all comes down to the possibilities that the Chinese market and industry holds.

Patrik Wilkens, vice-president of sales of Shouji Mobile, a British-owned based in Beijing that deals in localization for foreign companies, sees a bright future for the game industry in China, particularly the mobile market. He cited the prospective plans of companies like Rovio, PopCap and Electronic Arts.

"First of all, the Chinese market is so big, it's very difficult to ignore it. On the mobile side, it's harder to access the Chinese market than to enter the European market," Wilkens says. "But I think the Chinese market, especially with the Android technology on the smart phone side, will grow even bigger. Android is getting cheaper and more affordable and with the whole market shifting right now to smart phones, I'm sure that companies like big ones are coming here. Rovio mobile is coming into the market, Popcap is already in the market and EA is setting up it's own studios in the market."

The increase in the number of Chinese and overseas developers making games in the country also presented opportunities for UBM, which operates the Game Developers Conference (GDC) to set up GDC Shanghai for game makers to get together and trade stories, techniques and lessons on how to make great games.

"What we're hoping for is that everything that UBM can offer regarding game making can be made available for the Chinese market," Zhang Ming from UBM China says.

"The products we can offer to the Chinese developer are very much Chinese oriented."

"Chinese game companies have built strong domestic franchises in the online and mobile game markets and believe that long-term consolidation in the games market will come from China," Merel says.

"Building on their strength in high-growth online and mobile games, Chinese companies may come to dominate the global video games market."

Friday, 10 December 2010

GDC China: Online Opportunities In The Face Of Stagnating Consoles

This article, written by Christian Nutt, was first published by Gamasutra on December 9, 2010.

Tim Merel, managing director of investment advisory firm Digi-Capital, delved into the present and future of the global game market at a Gamasutra-attended lecture during GDC China in Shanghai earlier this week.
The reason for his talk? "Because investing and growing internationally is very exciting, but isn't necessarily as simple as you might hope."

Trends in The Video Game Market
According to Digi-Capital's research, "online and mobile video games should grow the total video game market size to $87 billion in five years." These games will, at that point, constitute half of the total market revenue; on the other hand, the "console sector is flat to down."

"Asia Pacific and Europe should end up taking 90 percent revenue share of online and mobile," said Merel. Of that slice, half will be China. His conclusion? "If you aren't in China, you aren't anywhere."
The North American market "will remain important, but the dominant market for online and mobile games is and will be China."
"Consumer markets are fragmenting and growing, which is both an opportunity and a challenge," he said.
When it comes to online and mobile games, "There are many ways of playing in this space... all of them require you to execute well. And they all require specific skills and approaches. It's different to the console model almost completely, and the business model is also different."
In his view, the CEOs of the major publishers are not equipped to deviate from the strategy of making multimillion dollar console titles. When budgets are "less than half a million, they can't, and don't know how [to adapt]," said Merel.

Working in the Online and Mobile Space
Mobile and online developers have to be "not one game, hit-driven companies... they have two sorts of portfolios of games... They may have tried 10 games but maybe only three worked. The risk isn't all on one game." Companies should also spread out across platforms to create a "portfolio of distribution" to avert risk.
While Merel calls social games companies like Zynga and Playfish "great businesses," they do have a weakness, in his view: "What keeps them awake at night is their friend Facebook... they are at the mercy of Facebook. They don't have a portfolio of distribution... they have a risk to their business."
"That combination of portfolios is extremely important," said Merel, as is a strategy of "rapid low cost game development... It's about being able to respond on a daily basis."
He described a European farming game which developed a virtual item in the form of a volcano immediately after the Icelandic eruption this spring hit the news, and sold it the next day -- the ash fertilized the farmland, a benefit to players. This bit of game design was "tied to not a pretty game element, but absolutely to how they make money."
As a social game developer, said Merel, you also have "a very, very pragmatic, hard-nosed, objective view of when you cut projects."

What Consoles Can Teach

Though he doesn't see growth in the console industry, he says it's "very valuable in terms of history." In his view, "knowing the mind of the console players is very important."
"If you do the numbers, broadly speaking, you need to sell half a million to 1 million units just to break even, and that's excluding all of your corporate overheads," said Merel. And though "video games rivaled Hollywood in 2009" and were "roughly similar in terms of revenue," he points out that the $60 price point for game titles makes it an unfair comparison.
Worse yet, as all developers and publishers these days know, "failed games can be deadly." Moreover, investing heavily in a title doesn't necessarily imply anything about its potential for success, according to Digi Capital's research.
In the face of these problems, the major console publishers are struggling to invest in the online and mobile markets; unfortunately, said Merel, their weakness is understanding big launches -- but how to do small is very difficult for them.
"They don't know how to operate, distribute, and most importantly market" a mobile game. "Because of the need to do things quickly, fast, small-scale, the major publishers are not driving mobile and online game investment."

Investment In the Video Game Space
Venture capital into video games investment has declined 60 percent since its high point in 2007, Merel said. There's weakness in the VC market thanks to the global financial crisis, but worse yet VCs just don't understand the highly fragmented games market.
"It's a very high-risk market and very tough to play," said Merel. "I've seen very smart, successful VCs make terrible investments." The result? Video game companies of all sorts are struggling to find investors.

And while some new companies have sold for great deals of money, said Merel, "I think the valuations we see today won't last beyond another year. Some of them will pay off as people had hoped, and some of them won't. When some of them don't pay off, the stock market will punish the companies that have done them."

"Investing in a startup is a very high risk game," said Merel, so investing in companies "where they're already generating revenue" -- even if profits are not huge -- is "very exciting... While focusing on the high growth sectors of social and online."

The companies which will attract investment are the ones in which "it's very obvious what the exit path is... Falling in love with a company is dangerous. Investing in a company where you have a good view of who's going to buy them and why, that's the kind of deal you want to do."

One last word of caution to investors: "It's incredibly easy for people to get excited by big deals... buying big because it's big is not a particularly clever thing to do."

Advice on Chinese Partnerships

"Broadly speaking, if you're a strong independent Chinese company growing quickly..." you have a good shot to "exit to major international games, media, private equity company," said Merel. 

Chinese companies will also get a chance to "license successful international IP into China... it is not necessarily a straightforward thing to do. For the right games it's a good business to be in."

He cautioned the audience that "when you go into international markets... unless you have someone who knows the culture and is a native speaker... partnering with someone who you can trust is a very good way to enter."

For foreign companies, he advised them to "work in partnership with leading Chinese companies in the Chinese market, but recognize that your Chinese partners are the strong ones in that relationship. Investing into a great company is never a bad thing to do if you know what you're doing, and can tie it back to your business."

In Merel's view, "Chinese companies bring a lot more to deals than just cash... First is, and most exciting for international companies, is access to Chinese markets. There is so much you can bring to them which they would greatly desire. The quality of people here is extremely impressive... but the costs in terms of staff is not as expensive as in international markets."

International Business Relationships

Doing business globally can present its own challenges, Merel said -- mostly cultural differences. However, "knowledge of potential international partners' motivations is key... if you know what they want and you can give them what they want, you can get whatever you want."

"The most successful acquisitions I have seen [are those] where the appreciation for the culture in both directions exists, and flexibility in both directions exists." On the other hand, if management doesn't understand the culture of the company they've acquired, "the team gets frustrated with the management style, and in two years the earnout ends, and the team leaves and your business is done."

Wednesday, 1 December 2010

Chinese International Games Investment: Digi-Capital at GDC China (Shanghai)

Digi-Capital’s Tim Merel has been invited to discuss Chinese international games investment opportunities at GDC China in Shanghai on 6th December

Commenting on the session, Merel said, “When I gave the games investment keynote at the Shanghai World Expo earlier in the year, I was impressed by the quality, drive and growth of the Chinese games businesses I met. I have never seen so many people focused on building great companies. What also struck me was the almost universal desire to invest and grow internationally, leveraging their existing strengths.

So I was pleased to be invited back to talk to Chinese companies and investors about international growth and investment opportunities. I believe the future lies in co-operation between East and West, with significant opportunities for Chinese investment and partnership internationally and international investment and partnership within China.”

The session is focused on how Chinese companies can leverage their strength by investing in international games markets, taking a practical approach to the many opportunities and challenges. The presentation includes a comparison of Chinese video games domestic growth and international growth, attractive international video games markets by games industry sector and geography, solutions to the opportunities and challenges for Chinese companies seeking international growth (including international market entry, investment, mergers and acquisitions, partnerships, business relationships / culture, management style, business models and player culture), and practical next steps for strong Chinese companies.

The session will be attended by major and independent video games, digital media, digital services, telecommunications and software companies, institutional, VC and private equity investor, Chairmen, CEOs, CFOs, Corporate Development Directors and Partners.

Tim will also be holding one-on-one meetings with Chinese companies and investors after the conference in Shanghai and Beijing. Companies wishing to contact Tim can reach him at tim.merel @ 

Saturday, 27 November 2010

Tuesday, 23 November 2010

Money Games: sell your company now! (Part 2)

This article was first published in two parts by Games on 23 November 2010, as part of Tim's monthly column 'Money Games'.

Some people find dealing with potential buyers difficult. Some won't get back to you, others don't make an effort to understand your business, some think your business isn't worth much, and occasionally they can seem quite rude. There is a good reason for this, which makes the exit process much easier once you learn to accept it - buyers are looking for a reason to say "no" as soon as possible.

Thursday, 4 November 2010

PM announces East London Tech City

From the office of David Cameron, Prime Minister, on November 4, 2010

Press Release announcing the government's intention to transform East London into a world-leading technology centre to rival Silicon Valley with commitments from Vodafone, Google, Facebook, Intel and McKinsey to invest in the area. (Incidentally, Digi-Capital's offices are located in the 'Silicon Roundabout'.)

Wednesday, 27 October 2010

Money Games: Sell Your Company Now! (Part 1)

This article was first published in two parts by Games on 27 October 2010 and 27 November, as part of Tim's monthly column 'Money Games'.

Part One - Is it the Right Time to Sell Up?

Ngmoco is the most recent in a string of headline-grabbing online and mobile games deals in the last year, each with an apparently more stratospheric exit multiple (price as a multiple of revenue or operating profit) than the next - Playfish, Tapulous, Playdom anyone?

Wednesday, 15 September 2010

Merel to present investment review at Shanghai World Expo

This interview by Phil Elliot, ahead of Tim's presentation at Shanghai World Expo, UK Pavillion was first published by Games Industry. Biz on September 15, 2010.

New monthly columnist, Tim Merel, is to present the latest version of his Global Video Games Investment Review at this year's Shanghai World Expo, UK Pavilion - and he's offering five readers free passes to the invitation-only event.

The session and following meetings will focus on both Chinese companies and investors operating internationally, as well as international companies and investors seeking to co-operate with Chinese firms within the country itself.

"I'm grateful to have been asked to talk to some of China's greatest games companies, media companies and investors in their home country, and in particular at the spectacular Shanghai Expo UK Pavilion," said Merel.

"I'm hoping that the session and following meetings will help Chinese companies and investors to broaden their investment horizons internationally, while also providing a new way for international companies to work in partnership domestically with leading Chinese firms."

The review focuses on investment, merger and acquisition, and joint venture opportunities in videogames (including MMO, casual/social online, mobile, console, online gambling, skill based, and in-game advertising sectors) for industry players and investors (including major and independent videogames companies, private equity and venture capital firms, and major media, telecommunications and technology companies).

Tuesday, 14 September 2010

Money Games: Tencent

This article was first published by Games, on Sept 14, 2010, as part of Tim's monthly column 'Money Games'.

As the business of videogames moves ever more into the spotlight, is pleased to bring you a new monthly column from Tim Merel.  Each month he'll be examining a subject or sector of interest, beginning here with China-based company Tencent - and why it could be the biggest videogames company you might not have heard of.

Who am I?

Let me start by apologising - I used to be a lawyer, then I worked for Rupert Murdoch... and now I'm an investment banker. But - I'm also a software engineer, I write adventure stories, and I play a mean guitar, so life is a balance!

We're starting my monthly column with a profile of the greatest games company you may not know, Tencent. "No!" I hear you cry. "Surely Activision Blizzard, Electronic Arts, Take-Two or Zynga is the greatest?" Well, this all depends on your perspective, and when your perspective happens to be money, things change.

So who is Tencent?

To explain the praise for Tencent, let's start with some data. And again, I apologise; I tend to use a lot of data. For the innumerate, please look away now.
  • China has 29 per cent internet penetration, but 382 million users.
  • China is forecast to reach 56 per cent internet penetration (754 million users) by 2015.
  • Tencent holds dominant or leading stakes in many Chinese online/mobile markets (IM, games, eCommerce, search, mobile services).
  • Tencent's Chinese games market share was 20 per cent in 2009, forecast to hit 27 per cent by 2012.
  • Tencent's market capitalisation - which is in the order of ¥241 billion ($35 billion) with an enterprise value of 35x 2009 EBITDA in August 2010 - was greater than Activision Blizzard, Electronic Arts, GameStop, Take-Two, THQ, Atari, Game Group and Ubisoft combined.
So what about Sony, Microsoft and Nintendo? Okay, so Tencent is about halfway between Sony and Nintendo's market caps, and nowhere near as large as Microsoft. But (a) we're talking about game software not hardware and (b) Sony and Microsoft do a couple of other things too.  

Tencent's integrated model is where the market is headed

Tencent generates around a 50 per cent operating margin. Online/mobile games (MMO, board & chess, casual/social) generate more than 40 per cent of its revenue. Tencent's business model appears to be migrating from virtual items (higher Average Revenue per User) to subscriptions (short term revenue reduction, but lower volatility), which is a reversal of the trend they started. Expect to see the same thing happening in Western markets in 12-18 months time, which is roughly the lag between China's pioneers and the West's followers. Of great importance, Tencent has an integrated business model with upgrades and privileges across online, mobile and offline (not just games), delivering a significant advantage for customer acquisition, development and retention. It capitalises on enhanced capabilities to cross-promote, upsell and cross-sell. Facebook could learn a lot from them about how to make even more money.

Tencent has some natural advantages which help enormously

I like this first chart a lot, because it contrasts the growth in online/mobile games with the flat console games market, which is great if you're a pure online/mobile company like Tencent.
'Money Games: Tencent' Screenshot Image 1

The next chart helps to clarify things further, forecasting that Asia-Pacific will become the number one market by revenue, with Europe at number two and North America at number three. A very large proportion of Asia's strength comes from China - Tencent's home market - where online/mobile games account for the bulk of revenue.

'Money Games: Tencent' Screenshot Image 2

Whether or not you have faith in the forecasts themselves, directionally they're correct. The videogames market is going online and mobile, with China a large part of those markets. Again, that's great if you're the leading player in online/mobile games in China.

While not going into depth on how Chinese online/mobile videogames business models work, there are a few key elements to note:
  • Community focus around the games experience
  • Active interaction with gamers to refine both user experience and commercialisation
  • Focused commercialisation based around high volume, micro-transaction subscriptions, virtual items and some advertising
  • Games as a service, not a product, with multi-year revenue streams, revenue sharing post recoupment of development budgets and continuous, low cost development through game lifecycles post-launch
The charts below help to understand Chinese online game dynamics in general.

Chinese Gross Game Revenue Profile (¥) Example*

'Money Games: Tencent' Screenshot Image 3

Chinese Total Staffing per Game Profile Example*

'Money Games: Tencent' Screenshot Image 4

And what does all of this produce? 49 per cent games revenue growth over the last five quarters, and around seven million peak concurrent users of Tencent's mini casual games alone. Snap your fingers, and more than the population of Ireland are playing a Tencent mini casual game - not 7 million uniques per month, 7 million uniques right now.

Tencent Quarterly Game Revenue (¥ million)

'Money Games: Tencent' Screenshot Image 5
Tencent will be in your market soon, if it isn't already

Across the full Tencent games portfolio, you reach around 20 million peak concurrent users, or slightly less than the population of Australia. That's what happens when you're the number one Chinese games company.

Tencent Mini Casual Game Concurrent Users

'Money Games: Tencent' Screenshot Image 6

Chinese Game Company Revenues ($ million)*

'Money Games: Tencent' Screenshot Image 7
I was lucky enough to have lunch with Bo Wang from Tencent recently, and it is clear that despite Tencent's advantages the company is actively expanding into new areas. Now annual market growth has cooled to a mere 30 per cent (from 70 per cent-plus), Tencent is looking to leverage its strengths across segments domestically and internationally. But as with all things Tencent, this isn't just talk and it isn't small. There are domestic partnerships:
  • China Unicom (fixed line, 3G, operations, "QQ Wallet")
  • Hunan TV (talent, animation, online/mobile games)
  • China Merchants Bank (financial services)
There are also international partnerships/investments:
  • Digital Sky Technologies (Facebook, Zynga, investor)
  • Vina Games (Vietnamese online games/internet)
  • MIH India Global Internet (licensed software, content & trademarks)
  • Naspers (36 per cent Tencent investor) with global reach in high growth markets
All the major videogame, technology and media companies in North America and Europe are both fascinated and slightly nervous about the major Chinese companies entering their home markets. The only advice I can give is to learn from Tencent fast, because these guys mean business and they know what they're doing. It is only a matter of time before they become as strong internationally as they are at home, so watch out!

The UK Government has asked Tim to present his Global Video Games Investment Review to 100 senior executives from videogames companies, media companies and investors at the Shanghai World Expo UK Pavilion on September 28. The session and following meetings with will focus on both Chinese companies and investors investing internationally, and international companies and investors seeking to co-operate with Chinese firms in China.

Sources: PWC, Capital IQ, Credit Suisse, Companies, *presented by Bo Wang at GDC Europe 2010

Tuesday, 10 August 2010

Online and Mobile Games should generate more revenue than console games

First published by Venture Beat, on August 10, 2010 (reappeared in New York Times).

The video games industry is big and getting bigger. But it’s changing. Console games are getting riskier to make, while online and mobile games are taking over the market (see my updated Global Video Games Investment Review, which I’ll be using to open GDC Europe).

Today online and mobile games generate about a third of all games software revenues globally. In five years’ time they are forecast to generate 50 percent of all games software revenue, or around a fifth more revenue than pure console games. This morning, market researcher iSuppli said that cell phone games are growing fast as console and handheld games sputter. Whether you have faith in the forecasts or not, executives from the major U.S., European and Asian publishers all tell me that this is what keeps them awake at night.

What excites me about the online and mobile games markets is that they are both high-growth and profitable, which is pretty rare. The leading competitors are growing revenue 100 percent-plus annually while also delivering 20 percent to 30 percent EBITDA (earnings before income tax, depreciation and amortization) margins. Add to that a fragmented industry structure, no dominant leaders yet, plus clear strategic exit options, and it looks like this is the time for strategic game and media companies, as well as financial investors, to invest.

However, major publishers aren’t structured to invest in online and mobile. Their core competencies focus on management of $20 million-plus serial, high risk, complex developments, launches and commercialization. Online and mobile games require rapid, multiple, small-scale parallel development platform investments. It’s a completely different business culture. As a result, major publishers aren’t driving investment in those games the same way they did console games.

In parallel, generalist venture capitalists are investing less in video games. Despite the rapid growth of the online and mobile games markets, VentureBeat’s own analysis shows investment in games companies dropping 36 percent from 2008 to 2009. Our analysis (which uses different definitions) shows VC investment across video games in 2009 had dropped by 60 percent from its high point in 2007. The drop has come from general VC market weakness, combined with limited knowledge and relationships across the complex, fast-moving online and mobile games sectors.

I am constantly being approached by high-quality, high-growth online and mobile video games companies from the U.S. and Europe who are finding it harder than you’d expect to get the funds they need to drive growth during this critical stage, before the industry consolidates. Quality demand is exceeding quality supply of investment and board representation.

Why a growth capital games fund could fill the investment gap

The opportunity now exists for major strategic video games, media and financial investors to maximize returns from online and mobile, so high quality deal flow is needed. Yet entrepreneurs typically avoid direct corporate investment prior to exit, so major strategic players aren’t seeing quality deals until merger and acquisition time when valuations are full or already prohibitively high. As before, the generalist VC market isn’t putting enough money to work here either.

I believe that a growth capital game fund is the most promising approach, investing in online and mobile games companies rather than more common and higher risk project-funding of individual games. A true growth capital game fund would invest in working capital (debt convertible into equity via convertible loan notes), venture capital first, second, or third rounds (early stage equity) and growth equity (later stage mix of equity and some debt) in multiple, parallel game business development platforms (not “one game” hit driven companies). That’s where the strategic and financial investors should be looking to invest across the U.S. and Europe. Asia is also interesting, but you need local partners to make it work.

In terms of focus, I like companies like Bigpoint, with a portfolio approach for both games (DarkOrbit, Deepolis, Farmerama) and distribution (limited reliance on Facebook). I also like online/mobile games B2B middleware companies like Live Gamer. I’m less enthusiastic about predominantly single game companies like Jagex (Runescape), and the Facebook players (Zynga, EA Playfish). These companies aren’t diversified enough. Primary dependence on one game or one distribution channel is a bit risky for my tastes, as any game can decline or Facebook can turn you off or charge increasing rents.

The real difference with this approach is the delivery of earlier stage investments than otherwise possible, meeting the needs of high-growth companies independent of stage while also managing investment risk. With the right relationships and management, this could yield high growth capital returns (greater than 30 percent internal rate of return) or three to six times money multiple (where the company sells for several times what went into it) due to investment at lower, earlier stage valuations than typical acquisitions. So long as the rules of engagement are clear, there is substantial opportunity to make money by investing in the growth of the best online and mobile games companies.

In short, the video game funding model needs to be reinvigorated in the same way that online and mobile are reinvigorating the video games industry as a whole. The console industry today looks a lot like the old media industry 10 years ago: cash generative, revenues flat to down and cost focused. Fortunately there is a real opportunity for the games industry to attract investment in online and mobile to avoid a declining future. I believe it will happen.

Tuesday, 27 July 2010

'Time is right' for mobile and online investment: GDC Europe Presentation

Interview by Phil Elliot, first published by Games on 27 July 2010, ahead of opening presentation at GDC Europe in Cologne, August 2010.

Tim Merel will be discussing the opportunities for investment in the videogames space at next month's GDC Europe, taking place in Cologne.

According to the investment bank's director, the mobile and online sectors are ripe for investment, and he'll be outlining some of the findings from the company's updated Global Videogames Investment Review.

"The videogames industry is big, getting bigger and changing, with console game costs, revenue and risks accelerating and online and mobile games growing and fragmenting the market," he said. "Investment dynamics are entering a new phase, with growth investment opportunities in online and mobile games, as pure console sector growth is flat (and risky).
"Today online/mobile games generate around a third of all games software revenues globally. In five years' time they are forecast to generate 50 per cent of all games software revenue, or around a fifth more revenue than pure console games.

"Whether you have faith in the forecasts or not, CEOs and senior execs from the major US, European and Asian publishers all tell me that this is what keeps them awake at night. What excites me about the online and mobile games markets is that they are both high growth and profitable, which is pretty rare. The leading competitors are growing revenue 100 per cent-plus annually while also delivering 20-30 per cent EBITDA margins.

"Coupled with a fragmented industry structure, no real market dominance and clear strategic exit options to the major videogames and media companies, the time for investment is now."

More information on GDC Europe is available from the official website, and will be on hand to report on the event.

Friday, 23 April 2010

Jens Uwe Intat to feature in top investment session

This article was first published by Games on 23 April, 2010.

Electronic Arts' European boss, Dr Jens Uwe Intat, is to headline a series of key figures in an investment panel session to take place next month, hosted by Tim Merel and the London Business School.

Intat will feature alongside other games people - including Bigpoint chairman Simon Guild, Spil Games CEO Peter Driessen and Rebellion CEO Jason Kingsley - as well as several major names from the world of finance and media.

Romain Gonthier, director of private equity firm Veronis Suhler Stevenson, and Megumi Ikeda, executive director of venture capital business GE/NBC Universal Peacock Equity will both attend, as will Time Warner's director of strategy and corporate development, Benjamin Vedrenne-Cloquet.

The event, taking place in London on May 24, is invite-only and aimed at the senior members of the videogames business.

"We are hoping to bring together deal and decision makers from all sides of the videogames and investment industries, to find new deal opportunities which they might not see otherwise," said Merel of the event.

In addition to the panel session itself, there will also be networking time before and after the main event, to provide the opportunity to meet a host of directors, CEOs, CFOs and partners from games companies, VC and private equity firms, and major media companies.

Tuesday, 16 February 2010

Video games investment trends and opportunities: interview in Games Industry.Biz

Interview by Phil Elliot, published by GamesIndustry.Biz on 16 February 2010

Q: From an investment perspective, what are the prevailing trends that you see?

Tim Merel: It's no secret that the big are getting bigger, the middle is getting squeezed and the small end holds a lot of potential. The scale of the videogames industry has been understood by most investors for a while, but the dynamics are changing incredibly quickly.

At the big end the major franchises are attracting increasing amounts of investment and generating increasing returns, but this doesn't come without risk. The gaming equivalent of Eddie Murphy's Pluto Nash ($100m cost, $4.4m revenue) is what scares the money men, so the risks of launching new franchises or making a mess of existing franchises becomes enormous.