About the Author: Sangeet Paul Choudary writes regularly on strategies for online markets, and works closely with startups in these spaces in India, Singapore, and the US. You can follow him on Twitter. A version of this article was previously posted on Sangeet's blog, platformed.info.
Zynga’s (NASDAQ:ZNGA - News) recent reversal of fortunes brought up several questions about the social gaming and virtual goods model. The company’s growth is so closely linked to Facebook (NASQAQ:FB) that it is often indistinguishable which of the two was riding on the other’s growth. In any case, Zynga was the first application to leverage Facebook as a marketing platform at such a large scale and with such success. In doing so, it also heralded a wave of social gaming that shook traditional gaming companies into rethinking their offerings.
Zynga’s recent fall has simultaneously exposed the chinks in its strategy (which was leveraged by other players) and highlighted a growing trend among similar players in the social gaming space who are running into similar problems.
Over-reliance on a foreign user acquisition engine
Social gaming is a great example of user acquisition based not on relevance to target users, but on repeated incentives to current users to send invites to new users. There are two interesting points about social gaming in its current state:
Viral acquisition: Social games rely heavily on virality. This is often baked into the game mechanics. Users can acquire time (faster leveling up) or resources in the game by inviting their friends. The entire game is built around users calling other users in. This virality is NOT word of mouth; it has nothing to do with a positive experience that users may have had on the game.
Cross-promotion: Social games rely heavily on hits and cross-sell. Whenever Zynga puts out a new game out, it acquires users from existing games (cross-sell). However, this has a lot to do with momentum. If a game falls through in between, the audience carry-over suffers. In general, social gaming companies maximize revenues by making users play more games, thereby creating more monetization opportunities.
The two factors above imply that social gaming, unlike every other form of gaming, can scale well only on an underlying user-acquisition platform. Facebook, of course, was perfect as a user acquisition platform. The problem, though, was that this made Zynga and others over-reliant on the Facebook, and hence, over-exposed their business to any policy changes that limited the use of the platform.
Piggybacking on another network
Zynga’s growth strategy was piggybacking on Facebook’s growth. Networked businesses often ride the success of another network. Paypal rode eBay’s growth and YouTube was helped by MySpace’s growth early on. The key driver for success in piggybacking on another network’s growth is the ability of the overlying network to add value to users of the underlying network. Paypal provided eBay users a method for instant payment. Youtube provided Myspace (and later Facebook) users a way to easily share videos.
The problem with some of the social gaming companies piggybacking on Facebook, though, was that the many invites sent to users actually depleted value for users on Facebook rather than enhance it.
They did add value to a certain group of users otherwise we would never have had this segment of 50-something women petting puppies on the internet. But in doing so, they spammed another whole set of users, repeatedly sending irrelevant invites.
Facebook itself, over time, has taken progressively greater measures to curb the level of spam on its network. Zynga obviously gained a lot of traction because it was among the first to show up at the party. The restrictions started coming into play only later. And with the restrictions, Facebook has become sub-optimal for user acquisition of this sort.
Facebook was never optimized for social gaming
The viral invite mechanic on which this model of social gaming works fails because of two reasons:
Not every user on Facebook is genuinely interested in playing or trying a social game. That’s not the primary use case of the network, since Facebook is first a publishing platform and then a marketing platform. Good content goes viral on the platform because it adds value to the users, who are largely out there looking for good content. Facebook is optimized for good content, not for game invites.
The underlying network is based on real identities. As a result, users are more sensitive about spamming their friends and creating poor experiences for them. As with any other technology experience, users don’t necessarily differentiate negative behavior (spam) from day one and gradually acquire the sophistication to avoid spamming.
The social invite mechanic should be native to the underlying platform
This is where Asian gaming platforms are fundamentally different. A characteristic that differentiates some Asian gaming networks like GREE (TYO:3632) and DeNA (TYO:2432) from other social gaming companies is the fact that their user acquisition and cross-promotion is built on a native gaming platform. Users often have an avatar-based gaming identity rather than their real identity. With gaming being the core function of the platform, the risk of spam gets mitigated. And since people aren’t their real selves on the platform, the propensity to mass-invite will be that much higher.
The current breed of social gaming companies that have optimized and perfected the art of acquiring users on Facebook and other non-native viral platforms are now faced with an additional challenge (since Facebook’s policy tightening) with which they have no experience: Building a user acquisition platform where they own the users across games. Companies which have already built a user acquisition engine on a native platform have a headstart here.
The smaller screen problem and ‘unbundling’
Every web-first company seems to be up against this challenge. Mobile gaming comes with three unique problems:
The small on-screen real estate limits monetization options.
Mobile has a history of unbundling horizontal platforms into vertical services. Facebook.com is a single web destination for multiple use cases (communication, hosting pictures, sharing stuff, playing games etc.). But Facebook itself has multiple mobile apps for communication, photos, etc., and faces stiff competition from services like Instagram (pre-acquisition) which would not have been a direct competitor in a desktop/web-only world. This unbundling could also raise challenges for social games which depend heavily on cross-promotion and could come in the way of porting users from one game to another.
Mobile brings a different game dynamic with it as well. Mobile games tend to have high engagement per session. Social games on Facebook, on the other hand, have lower per-session engagement and are often played more in maintenance mode where a user logs in, completes a few tasks and then finishes up.
Being mobile-first, Asian gaming giants again have a headstart, especially in the region’s more mature mobile markets. GREE’s acquisition of OpenFeint clearly marked their intentions towards investing in a cross-platform mobile gaming experience.
It’s ultimately the money, honey!
Social gaming ARPU s globally are still not at the level that they are in Japan. Despite the fact that Zynga had 10X the number of users that GREE had in late 2011 (Zynga was still on a roll), GREE had higher quarterly revenues and both GREE and DeNA had more than 10X the profitability of Zynga. Of course, this all works very well when you’re targeting the affluent Japanese market. But two significant reasons for Zynga’s low profitability have been it’s high customer acquisition spend and the 30 percent revenue share with Facebook. Acquisitions spends are controlled to a much greater extent on an owned, native platform, which contributes to DeNA’s high profitability.
Of course, there’s always the off-chance that the rest of the world may be different. Social gaming, mobile gaming, and virtual goods were all first implemented on a commercial scale in Asian markets, particularly in two two markets (South Korea and Japan) characterized by high disposable income, technologically-advanced consumers and high average online spends. Both markets, however, have historically been very insular. Korea’s Cyworld hasn’t really broken much ground in its global expansion quest. And Japanese consumer tech products continue to be very inward focused.
The challenge for these companies lies in their ability to execute in foreign, especially non-Asian, markets with different customer tastes. Can they figure out the global consumer? If they do, they might just ring in a new phase of international success for Japanese internet companies.