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Games and Good Enough

Two months ago I wrote How Apple TV Might Disrupt Microsoft and Sony. Then, about a month later, I went and bought a Wii U. And, a month after that, I bought a 3DS. And now I’m writing another article about gaming, and I think I’ve changed my mind.

Still, it’s always dangerous to write about anything based on little more than your personal experience, so I’ve been trying to get up to speed on what is happening with gaming. And it’s actually pretty darn encouraging. Sony has sold 10 million PS4s, while Microsoft has sold at least 5 million Xbox Ones. Nintendo is still hurting, but Mario Kart 8 has moved 2.82 million copies while the 3DS now has 9 titles that have sold more than 1 million units. Meanwhile, in PC land Nvidia beat expectations largely because of continued growth in demand for their GeForce graphics processors. At the same time, mobile game companies like King are struggling, and the iPad, which so many – including myself – presumed would take a big chunk out of consoles, has seen its sales slow dramatically (last quarter it was down nine percent year-over-year).

So why did I buy not one but two new consoles? And what, if anything, might that have to do with these rather impressive results?


Last fall I wrote what is probably still my favorite piece on this site: What Clayton Christensen Got Wrong. In the piece I took the idea of low-end disruption head-on. Basically, the theory states that in an immature market, the integrated solution has the advantage, but as a market matures, modular solutions become “good-enough” and are able to leverage a price advantage – and, over time, a scale advantage – to take over the market.

My fundamental contention was that this theory primarily applied to business markets where the buyer was not the user and prices and feature lists reigned supreme. In consumer markets, on the other hand, where the buyer and user are the same person, there would always be a significant part of the population that prioritized the user experience only an integrated solution can deliver, making the high end a profitable segment despite higher prices. My prime example was, of course, the continued success of the iPhone in the face of good-enough Android (please do read the whole thing).

And yet, when I wrote How Apple TV Might Disrupt Microsoft and Sony, I basically built my entire argument on the idea of low-end disruption. My thesis was that a general purpose Apple TV would offer good enough gaming that would appeal to a significant part of the population, and, over time, peel away even those at the high end. That’s what made my 3DS purchase in particular so interesting.


John Gruber perfectly articulated why the 3DS and any future Nintendo handheld is doomed in More on Nintendo and Handheld Gaming:

What’s different about the post-iPhone world of mobile computing is that the buying decision is no longer about or, it’s about and. Pre-iPhone, someone interested in a handheld game device would choose between Nintendo’s offering or someone else’s. Nintendo did well in that world, selling more than enough devices to succeed. Today, though, someone deciding to buy a dedicated handheld game device is, more likely than not, deciding whether to buy something to carry in addition to the mobile device they already carry everywhere. This is an entirely new scenario for Nintendo, and as I see it, they are on course to head right over a cliff.

It’s actually worse than Gruber likely realized: the 3DS is a pretty atrocious piece of hardware relative to an iPhone. Because of the silly inclusion of 3D, the effective resolution is only 400×240 on the DS’s main screen, and it is absolutely brutal to look at. This is not a situation where post-PC devices are on pace to deliver superior graphics: they are already years ahead.

And yet, screen quality notwithstanding, I have probably put in more gaming hours on the 3DS in the last two weeks than I have in the previous two years on the iPhone. Because here’s the thing: touch sucks for playing games.1 The experience of using a dedicated device with built-in gaming controls and games designed specifically for said device mean a great deal to this user and buyer. It means enough that, especially when I’m traveling, I will gladly carry an additional device.


Again, as I noted at the top, I very much hesitate to read too much into my own personal experience. But I’m beginning to suspect that consoles may be a bit more resilient than many of us in tech may have first believed. And, by extension, I suspect my critique of low-end disruption may have legs: when users are buyers the user experience matters, immensely. And the user experience of a console is, and likely will remain, far ahead of any sort of touch device when it comes to many (but not all) types of games. Moreover, I now suspect that an Apple TV that supports gaming will be less disruptive than I suggested as well; as long as the controller is optional, as I suspect it would be, the immersive experience of a dedicated console will be optional as well.

That’s not to say the gaming business is going to thrive: in this Nintendo is indeed a cautionary tale. It seems increasingly clear that the Wii’s incredible success was the worst thing that could have happened to the company. What made the Wii such a hit was that it dramatically increased the market for consoles: lots of people who would not have normally been interested in a PS3 or Xbox 360-type device couldn’t resist Wii Sports. The problem, though, is that the Wii market, by virtue of not being people who particularly valued the traditional gaming experience, was the exact same market likely to see touch gaming as good enough. Keep in mind the Wii launched at the end of 2006, just weeks before the iPhone. In retrospect it was the last hurrah of the gaming middle ground, of a piece with the iPod, point-and-shoot cameras, and other dedicated but low-end devices.

What has happened in all of those markets – indeed, what is happening to smartphones as well – is a bifurcation between the high and low ends. Cameras is a particularly good example: DSLR sales have remained strong2 even as the point-and-shoot cateogry has all but disappeared, replaced by good enough smartphone cameras. That’s the exact same pattern we’re seeing in gaming: the PS4 (and to a lesser degree, the Xbox One) are doing much better than expected, while the lower-priced and lower-specced Wii U is hurting. Nintendo’s mistake was not realizing that the Wii’s market was devoured by touch devices; they should have built a console that was top-of-the-line.

There is one more fascinating parallel between Android/iOS and touch gaming/console gaming: even though Android has far greater market share, the best apps are generally found on iOS largely because the most money is there. Similarly, while gaming as a whole was worth $93 billion last year, only $13 billion of that was in mobile, and much of that in free-to-play games like Candy Crush Saga that appeal to very different players than traditional gamers. In other words, it’s not at all a given that publishers will abandon consoles simply because the market share of mobile devices is greater.

In short, I believe there are factors more important than just market share, at least when it comes to smartphones. Why not when it comes to games?

  1. Board games on the iPad being the big exception, at least for me
  2. They did start to slip last Christmas

Podcast: This Week in Tech – It is Brisk

I joined Leo Laporte, John C. Dvorak and Jason Snell on This Week in Tech. We covered a wide range of topics, including Apple University, OnePlus’ appalling “Ladies First” contest, Facebook’s timeline algorithm, Twitter’s capacity for both good and evil, and a whole lot more. Plus murses!

You can download the show here.

Podcast: Exponent Episode 013 – BuzzFeed and Native Advertising

On the newest episode of Exponent, the podcast I co-host with James Allworth:

In this week’s episode we discuss feedback about Ben’s Android criticism, then dive into Andreessen Horowitz’s $50 million investment into BuzzFeed. Is there a real business here? We also discuss native advertising: Ben is quite a bit more optimistic than James.

Links

  • Ben Thompson: Is BuzzFeed a Technology Company? – Stratechery
  • Chris Dixon: BuzzFeed – Chris Dixon’s Blog
  • Marc Andreessen: Introducing our new venture capital firm Andreessen Horowitz – Blog Pmarca
  • Ben Casselman: Corporate America Hasn’t Been Disrupted – 538

Listen to the episode here

Podcast Information: Feed | iTunes | SoundCloud | Twitter | Feedback

Is BuzzFeed a Tech Company?

It’s telling that Chris Dixon, in a blog post explaining Andreessen Horowitz’s $50 million investment, goes out of his way to explain that BuzzFeed is not really a media company, but a technological one:

We see BuzzFeed as a prime example of what we call a “full stack startup”. BuzzFeed is a media company in the same sense that Tesla is a car company, Uber is a taxi company, or Netflix is a streaming movie company. We believe we’re in the “deployment” phase of the internet. The foundation has been laid. Tech is now spreading through every industry and every part of the world. The most interesting tech companies aren’t trying to sell software to other companies. They are trying to reshape industries from top to bottom.

BuzzFeed has technology at its core. Its 100+ person tech team has created world-class systems for analytics, advertising, and content management. Engineers are 1st class citizens. Everything is built for mobile devices from the outset…BuzzFeed takes the internet and computer science seriously.

The issue is that, generally speaking, media companies don’t make for good venture capital investments. VC firms like Andreessen Horowitz aren’t looking to fund nicely profitable companies; they are searching for home runs, the one or two investments that make a fund profitable despite lots of failures. This means a focus on companies that can scale. Marc Andreessen told Adam Lashinsky in Fortune:

We describe it is we invest in Silicon Valley style companies. So we invest in the kind of companies that Silicon Valley seems uniquely good at producing at scale, you know, large numbers over time.

What makes technology companies – software companies, especially – different from media companies is the distribution of costs. Even before the Internet, for a software company, almost all of the costs were up-front fixed costs: you spent money primarily on salaries to develop a piece of software, and you spent that money well before you knew whether or not said software would sell.

The payoff, though, was that the software itself had minimal marginal costs: it cost basically nothing to produce one more copy (discs and packaging, basically). Thus, the vast majority of revenue for every single copy sold went straight to the bottom line. Moreover, most software is universal: it can be used anywhere (although localization can add to the fixed costs), and it’s useful for a long period of time. That results in the sort of scale that Andreessen was referring to.

Media companies, on the other hand, have traditionally differed from technology companies in three ways:

  • Created content had a very short shelf life, which leaves a very small amount of time to recoup the fixed costs that went into its creation
  • Media’s marginal costs (paper, ink, delivery) were higher than the marginal costs for software, at least in relative terms
  • Media was generally limited in its geographic availability

In this pre-Internet world, media did have an ace-in-the-hole: their significant up-front costs often resulted in geographic monopolies that made them the primary option for advertisers. This made media companies interesting investments for hedge funds, but the limited upside meant they were much less attractive to VCs.

Fast forward to today, and the Internet has seemingly made the differences between technology and media companies even more stark:

  • Packaging is no longer necessary, reducing the marginal cost of software to zero
  • Multiple new business models have emerged for software, such as attracting massive user bases for free which can then be monetized through advertising or premium services1
  • Media, meanwhile, has lost its local monopoly, and advertisers have fled for platforms that have more scale – there’s that word again – and better targeting

So why on earth is Andreessen Horowitz investing in a media company? Or is Dixon right – is BuzzFeed really a technological company that can use software to succeed in everything from listicles to hard news to now, their own movie production company? What has changed since Andreessen wrote in his post introducing Andreessen Horowitz:

We are almost certainly not an appropriate investor for any of the following domains: “clean”, “green”, energy, transportation, life sciences (biotech, drug design, medical devices), nanotech, movie production companies, consumer retail, electric cars, rocket ships, space elevators. We do not have the first clue about any of these fields.

I suspect what Andreessen and company have come to realize in the five years since that post was written is that because of the Internet media is more like technology than it might first appear, and that what Andreessen Horowitz cares about is not the software but the potential scale.

  • Like software, media has zero marginal cost
  • Multiple new business models have emerged for media, such as attracting massive user bases for free which can then be monetized through advertising or premium services
  • The addressable market for media is the connected population of the world, and content is itself self-selecting when it comes to effective targeting

These are all points that are overlooked by those in the media kvetching about the death of journalism: everything that is hurting traditional media companies – zero marginal costs, “free” expectations, unlimited competition because of global distribution – are opportunities for new media companies unencumbered by traditional thinking.

So, for example, as Dixon writes about BuzzFeed:

Internet native formats like lists, tweets, pins, animated GIFs, etc. are treated as equals to older formats like photos, videos, and long form essays.

And why shouldn’t they be? The only reason to treat a tweet differently than a pull-quote, or an animated GIF differently than a photo, is if you are worried how they will appear in print. Remove those shackles and you realize there is no difference at all. What Dixon didn’t say, though, is that this sort of liberation also applies to monetization, and that includes native advertisements. I’m quite bullish on native advertising, and I think the ethical concerns are overstated. Specifically:

  • “Native” advertisements are how every medium monetizes free content: newspaper ads are stories and pictures, magazine ads are beautiful imagery, radio ads are jingly voice-overs, TV ads are scripted stories, so on and so forth. Still, it took each of these mediums time to figure it out – they all went through their banner advertisement stage, i.e. ineffectually using an advertising format that worked on the old medium.

    In the case of the Internet, content consumption is primarily about either the timeline – think Facebook, Twitter, or even blogs – or the irresistible atomic unit that spreads on social media. We should expect – and applaud – advertising adapting itself to these formats.

  • Newspapers in particular have been the most conscientious about maintaining a “wall” between the business and editorial sides of the businesses. Newspapers, though, as I noted above, were de facto monopolies. So while it certainly benefited journalists that they need not worry about how the newspaper made money, there was absolutely a political benefit to trumpeting the objectivity and impartiality of the editorial side. Newspapers could declare themselves to be above reproach even as they made money hand over fist.

    The situation is far different on the Internet. Anyone anywhere has access to everything on the web,2 which means there are no monopolies on either the news or on advertising. Quite the contrary, in fact: the Internet is the closest thing in human history to a true marketplace of ideas, and the currency is user attention. Ultimately, well-functioning markets are a much better police of ethical lapses than self-rightous arbiters.3

    Moreover, the truth is that bias lurks in any author, or in any ownership structure, something that is of particular concern when it comes to the consolidation of traditional media. One can absolutely make the case that an organization like BuzzFeed, with clearly labeled native advertising, is a lot more trustworthy than any reporting that may come out of an organization like NBC (which is owned by Comcast). Oh sure, NBC journalists will object to that statement, but how can we every truly know?4

This is what makes BuzzFeed so interesting: absent legacy, media absolutely benefits from Internet economics as long as you can figure out effective monetization, and it’s possible BuzzFeed has done just that, and, just like their product, they have done so by abandoning that which primarily mattered in the old medium.

This begs a deeper question, then: what is a technology company? I actually don’t buy the idea that BuzzFeed has some sort of magic algorithm that makes what they do possible, and if that’s the basis on which Andreessen Horowitz is investing, then I have a bridge they may be interested in as well. However, the entire premise of this blog is that product is only one part of what matters: so does channel, distribution, advertising, business model and the addressable market. And that is what makes BuzzFeed a “tech” company: the world is their addressable market, and they make money by scaling for free.

  1. Obviously data centers and the like cost money, but again, those are fixed costs, not marginal one: each additional user is “free”
  2. Absent government intervention, of course
  3. Obviously lots of markets are not well-functioning; I’m not an absolutist here. However, when it comes to what is read online, it is much more of a level playing field than almost anything you can compare it to. That this blog is read at all is testament to that; hopefully, the fact I am monetized by my readers is a competitive advantage
  4. To be fair, the same criticism applies to Andreessen Horowitz’s involvement in BuzzFeed, and this aspect makes me just as uncomfortable as Comcast owning NBC. Moreover, it certainly is convenient that Marc Andreessen sits on the board of Facebook, BuzzFeed’s most important channel

The iPhone in India (versus China), and the Week in Daily Updates

This week’s Daily Updates have had a heavy international focus, especially on China but also India. This particular update is from this morning and seeks to understand why Apple fares so differently in these two critical markets. To read all of the Daily Updates for $10/month or $100/year, please visit the membership page.

Bloomberg writes about the iPhone’s appeal in India:

Apple Inc., which has struggled in emerging markets because of the price of its new iPhones, has devised a strategy for India that’s starting to pay off: It’s pushing older models that offer cachet at affordable prices.

The iPhone 4, which was released in the U.S. in June 2010, is still available. So is the iPhone 4s that went on sale in October 2011.

“You flaunt an iPhone, but you don’t flaunt an Android,” said Punit Mathur, a 42-year-old vice president of a digital media company who switched to a new iPhone 4s from a Nexus 4. An iPhone 5s that would cost 53,500 rupees ($874) is too expensive, “but the 4s is still an upgrade,” he said…

Apple’s approach in India has helped it build traction in a country where 225 million smartphones will be sold this year, said Brad Rees, chief executive officer of London-based Mediacells, a marketing company. Apple, the fifth-largest vendor in India, more than doubled sales there in the first quarter to 325,000 iPhones from a year earlier, according to researcher Canalys.

I’m honestly a little hesitant to jump on this article; it fits a little too neatly into the prevailing narrative about iPhones. Moreover, according to the numbers in the article, the iPhone is on pace to have less than one percent of India’s smartphone market, so the iPhone is not exactly dominating.

That said, the union of these two facts – that the iPhone in India has high-end appeal, but sells in infinitesimal numbers – lends credence to a point I made last fall in The $550 iPhone Makes Perfect Sense:

It’s not so much that the iPhone has saturated the American-style and European-style markets, and ought to focus on the Asian-style one; rather, the iPhone has saturated the high end in all three markets – the high end just varies in accessibility ($200 for American-style, $650 for Asian-style). And, if you accept that the iPhone is in roughly the same competitive position in all three markets – that the difference in market share is due to inherent structure of the market – then it’s not at all obvious Apple should focus on the SE Asia-style market. In fact, it’s obvious they shouldn’t.

My use of the word “saturated” was probably a bit strong, but the point I was making was that the iPhone skims the top of every market, and that their market share is simply a function of how rich a country is (as well as how subsidized the handset market is). I fleshed out this idea in a post about Apple’s growth in Japan:

It’s not that the iPhone has fully penetrated developed countries, leaving the rest – we’re not talking about a Pampers or Pepsi here, or some other consumer packaged good. Rather, the iPhone is an affordable luxury item; the percentage of the population to which it is affordable just happens to differ market-by-market.

The iPhone targets the high-end in all markets, not just developed markets.

The iPhone targets the high-end in all markets, not just developed markets.

To that end, it is very interesting to compare the underlying fundamentals of the Indian and Chinese markets. Why is it that Apple is doing so well in the latter, while barely penetrating the former?

When it comes to China, I wrote the following when Apple finally agreed to a deal with China Mobile:

The two pertinent facts about China are that:

  • There is tremendous income disparity
  • There are a TON of people

So while many Western markets may have a greater percentage of the population that can afford an iPhone, the absolute number of Chinese who are potential customers is very high as well.

China market potential

The chart is obviously inexact, but we can look at the actual numbers:

  • The nominal GDP per capita in China is only $6,747 – clearly not enough to afford an iPhone!
  • However, China has a Gini coefficient of 47.4, which is quite high (the United States is in fact quite close to China with a Gini coefficient of 45.0)

That means a relatively small number of individuals have an outsized share of income, but, because China is so huge, the absolute number of high income individuals is quite large.1

India, on the hand, is just about as large as China, but has a very different economic profile:

  • India’s nominal GDP per capita is significantly lower than China’s, coming in at only $1,504
  • India also has much less inequality than China: the Indian Gini coefficient is only 36.8

The average is lower and there are fewer outliers, which mean many fewer people are in iPhone territory:

India has a lower average income and fewer outliers than China, which means a much smaller iPhone market

India has a lower average income and fewer outliers than China, which means a much smaller iPhone market

Ultimately, I think these numbers confirm my hypothesis: Apple is indeed the preferred vendor for people at the top of the market, but because the iPhone is priced (about) the same everywhere in the world, its market share is a function of a country’s average income and the way in which that income is distributed.

To be fair, this is hardly a controversial thesis: the more pertinent takeaway is that as long as Apple has globally available iPhones (which I don’t think will ever change), the chief constraint on Apple going downmarket in countries like India is the risk of forgoing profits in countries like China or in the West, both of which have plenty of people who can afford Apple’s prices. That’s why I continue to doubt we’ll see Apple abandon its lower-cost iPhone = old iPhone strategy in favor of releasing a new-to-the-world low cost device.


The full list of topics covered this week in the Daily Update include:

  • Why Facebook is About the Explore
  • NFL to Use Surface Tablets
  • Mobileye IPOs
  • Xiaomi Wins on More than Price
  • Micromax and Local Taste
  • Local Brands and Scale
  • Sprint Abandons T-Mobile Bid
  • Microsoft Hires New Head of Business Development
  • Understanding China, or Not
  • Apple’s China Risk
  • China Cracking Down on Messaging Apps
  • Apple/China Follow-up
  • The iPhone in India (versus China)
  • Buying Smartphones in the U.S.

To read all of these updates and to receive future updates, please visit the membership page and sign up!

I’d like to thank all of Stratechery’s subscribers for their support, and for making this site possible.

  1. As I joked on this week’s episode of Exponent, I’d like to call this Thompson’s Law: in very large markets, absolute numbers are more meaningful than percentages. I made the same point in Smartphone Truths and Samsung’s Inevitable Decline. Hopefully no one has already claimed it :)

Podcast: Exponent Episode 012 – The Internet Rainforest

On the newest episode of Exponent, the podcast I co-host with James Allworth:

In this week’s episode we discuss how the Internet is enabling not only big winners, but also small, focused niche players, and why that’s exciting. We also discuss the impact this transition will have on society, follow up on last week’s integrated/modular discussion, and in a special “After Dark” segment briefly discuss Ben’s recent experience with Android and theorize that the smartphone market is at equilibrium.

Links

  • Ben Thompson: Daily Update: Micromax Wins on Local Taste – Stratechery (members-only)
  • Rohin Dharmakumar: Can Micromax Become India’s Leading Smartphone Maker? – Forbes India
  • Ben Thompson: How Technology is Changing the World (P&G Edition) – Stratechery
  • Ben Thompson: Christmas Gifts and the Meaning of Design (includes a reference to P&G’s design process in the footnotes) – Stratechery
  • Ben Thompson: Pleco: Building a Business, not an App – Stratechery
  • Ben Thompson: Smartphone Truths and Samsung’s Inevitable Decline – Stratechery
  • Anita Elberse: The Way of The Blockbuster – Harvard Magazine
  • Albert Wenger: It is OK to Worry about Work (& Doesn’t Make you a Luddite or Socialist) – Continuations

Listen to the episode here

Podcast Information: Feed | iTunes | SoundCloud | Twitter | Feedback

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