Unrealized Expectations at Funcom
Sale of the Secret World and Investor Disclosures
Update: New information on this story appears in our continuing discussion of Funcom’s financials.
The Story Continues in: An Obituary for the Subscription MMO
I need to begin this post with a caveat. I am a big fan of The Secret World. I like the game, I’m having more fun in an MMO than I have had in some time. Considering that I started playing TSW sometime back in the closed beta, that’s a lot of logged hours with no diminishing satisfaction with the game. It’s been literally years since a title has done that for me. I also bought a lifetime subscription, in advance, so I want to see the game succeed. These things certainly favorably bias my perception of the current state of things and my perceptions of where things are going.
However, I am not just a fan who wants to see a game succeed. In the not-so-secret real world, I actually engage in business analysis professionally. Most of my work is in the domain of business strategy and I have some published research on the intersection between gaming and business. So, the recent disclosures regarding the unrealized sales expectations of the Secret World hits a few personal buttons. This post is more from the latter category.
It should be noted, though, that the trading range for Monday 13-Aug was fairly tight, with stock prices moving between 3.40 and 3.10 NOK. Although it did, once again, close at a low.
At this point, the language starting to surround The Secret World is that it’s a flop. Indeed, the Blog Rock, Paper Shotgun, today referred to The Secret World:
I don’t know what to say, really. Like SWTOR, TSW seemed a bit too late in the day, arriving after Moby Subscription had been slain, and I doubt I was alone in being put off by the dry combat (the narrative stuff seemed appealing, but I didn’t want to wade through hours of what, from the beta, wasn’t terribly engaging shooty-bang just to hear the dialogue). Unlike SWTOR, TSW wasn’t slavishly copying the competition and had high aspirations even if couldn’t necessarily realise them, so it’s tragic to see Funcom suffer. Hopefully they can bounce back, and will pour their energies into games that don’t require hundreds of thousands of subscribers to turn a profit.
Similarly, StockLink iMarkedet writer Asgeir Nilsen reports that technology analyst Espen Torgersen considers the game to have flopped.
I do not think the Board of Funcom can go out in the market to make an issue now. I think this would have been unwise. I think probably kind of M & A-run and that kind of stands highest on the agenda right now. Then, to restructure the company so as to buy time
Unrealized or Unrealistic Expectations?
To be fair, the stock market reaction is not unusual. There was quite a run up in the price of the stock. Records at Yahoo Finance indicate that the stock price appreciated from 7.59 to 23.90 NOK between December, 2011 and April, 2012 .
Most of this run-up is speculative based upon the perceived potential of the Secret World. Additionally, at this same time it was becoming increasingly evident that EA’s Star Wars: the Old Republic was failing, it is inevitable that some would speculate that EA’s failure could become Funcom’s game.
Funcom added to these expectations in their 25-May financial projections. There were several pieces of news in their Q1 projections. First, both Anarchy Online and Age of Conan were cash-flow positive. Second, while company earnings had been negative for several quarters, there were some signs that the losses were beginning to subside even without TSW revenue. Finally, there had been over a million beta sign-ups for the Secret World. So, while Funcom’s recent financial past was bleak, signs pointed to a better future.
What were the projections for the Secret World?
In that same report, Funcom sets forward to scenarios they believed were likely for the launch of the Secret World.
- “Conan-like” scenario. Sales of 1,050,000 in year one. Poor retention rates of around 280,000 concurrent subscribers. This would have resulted in $100mm first year revenue and a 43% profit margin.
- “Target” scenario. Sales 130% of AoC (1,365,000 units). Healthy retention of 490,000 subscribers and an additional 35% of subscriptions from in-game sales. This would have generated $157mm in first year revenue with a 53% profit margin.
So, armed with this information, Funcom’s stock remained strong right up until the launch of the Secret World. However, the stock price began a fall-off almost immediately. Initially, this was tied to the surprise resignation of CEO Arne Aas, with former COO Ole Schreiner stepping into the CEO suite. This resignation, on 2-Jul predates the rundown from 16 to 6.99 NOK two weeks later. Sudden, unannounced, changes in CEO’s are not commonplace and not a sign that things are going well.
I have always had a problem with the expectations for The Secret World. I believe the product has performed well, the development team has delivered and the game has the ability to thrive. I do not, however, believe this game was to be a World of Warcraft level title. Nor did I believe that this would be a million plus sale product. There are a number of converging elements that work against both of the posted scenarios.
- This is a modern fantasy, horror title in an industry predominated by high fantasy products. While this does potentially offer a strong differentiator, it’s also an untested differentiator. Will customers flock to a world without elves?
- This is an M-rated product, which precludes certain promotional medium. While that did not hinder Age of Conan’s ability to sell one million units, it does restrict the upper bound of the game’s sales potential.
- The game followed the launch of Age of Conan, which was a flop. Not only was AoC a flop at launch, but it did immeasurable damage to the Funcom brand name. There was a lot of hate and resentment visible towards the Funcom brand and a lot of that turned into very unfair early negative buzz about the Secret World.
- On top of that, for whatever reason, there was an immense negative buzz developed about game play in the Secret World. Ranging from complaints about character customization, combat animations and other issues, it was clear from early on that something was afoul in market perceptions of the forthcoming product.
- The Secret World is NOT an easy game. It’s challenging and complex in an industry where content is generally spoon fed. To mine a quote, “no one has ever gone broke underestimating human intelligence.”
- TSW was launching as a subscription based product. Putting aside the discussion of whether subscription models are dead for another post, it is fair to say that the subscription based PC Game market is smaller than the PC Game market simply by being a subset of that market. A subscription model reduces the potential size of your total market.
None of these things, taken alone, were insurmountable obstacles. The problem, though, is that these are not independent facts, there are interactions between them that matter.
There are plenty of m-rated, modern fantasy/horror games out there that sell, and sell well. However, none of them are subscription based. This introduces two interactions. First, will the fantasy/horror players pay for subscriptions when they have not in the past (e.g. can you convert new customers a la WoW). Second, will your existing consumers buy into a new genre?
The MMO market is not, in general, a high difficulty market. The game play tends towards the easy side and the game design has become increasingly linear in past years. While there are “hard” games out there that do well (EVE comes to mind), they do not generally dominate market positions.
On top of that, Funcom has a history and one that isn’t doing them any favors. Anarchy Online, while a brilliant game, had a horrid launch. Age of Conan had a smoke and mirrors launch where the shine of Tortage quickly dissipated into “where did the content go?” when players left the newbie experience. While both AO and AOC have evolved into stable, content rich products, they hurt the brand at launch. You never get a second chance at launch and you have a hard time undoing deeply negative impressions. TSW was working uphill on marketing because of the sins of its kindred. Fair or not, that’s how consumer minds work.
I have always seen TSW as a ‘niche’ MMO. It’s the term I used repeatedly in beta and it’s the term I still use. TSW is a great game. It plays well, it’s fun, it’s engrossing. But it’s not mass market. I see this as more of an EVE type game. While there are problems tracking MMO subscription data, MMOData.net suggests that EVE grew to 450k. EVE did not sell a million boxes, initially. Indeed, unlike the standard MMO model, EVE appears to have grown their customers over time by offering a superior, differentiated product.
That’s the game I perceive TSW to be. It’s hard, it’s different and it’s innovative on a number of fronts. Contrary to what fans will tell you on boards, that’s not always what they want. They claim it, but they often buy what they know (risk aversion). Games that break the mold usually have to grow into their business model, they don’t get to start that way.
Indeed, my perceptions seem to be what Funcom is now acknowledging. The people playing the game seem happy. The first update was quite successful. We are past the free month period and while populations have dropped, the server populations are still very robust. Their are lots of players still enjoying the content.
TSW does not appear to be going the way of recent MMO flops like Warhammer Online, Star Wars the Old Republic, or Final Fantasy XIV. It didn’t sell to projection, but it’s retention rates seem high and satisfaction levels remain quite high. That last gem was the bright spot in the Funcom investor relations release. It’s been overshadowed in the gloom and doom, but it’s an important sign of where things are really going.
It’s all the fault of the critics, right?
That was a central point in the Funcom investor relations release. Sales were below both scenario expectations and they attribute this, at least in part to “the aggregated score for The Secret World of 72 out of 100, which is to be considered low…” Do critical reviews matter?
It turns out there is some empirical evidence that they do. Uzzi and Spiro used critical reviews and box office revenues as separate performance variables in a related entertainment industry. While their study is not about the voracity of reviews, it is worth noting that in their study (across decades of data), there is a very strong positive correlation between reviews and financial performance for Broadway musicals. That’s not a 1:1 correlation, there are some high revenue shows that are panned by critics and there are some critical raves that fail to draw customers. But, on the whole, reviews and revenues go hand in hand.
There are two cavaets here. First, this isn’t a proven causal relationship (e.g. reviews cause sales) and second, it’s a different industry. But the industries are related on the entertainment side. Additionally, it’s not necessarily an issue of whether reviews cause revenues. It could simply be that reviews are, at least in part, an indicator of the buzz surrounding an entertainment title. If that’s the case, they are a useful leading indicator even if the review itself doesn’t create sales.
Like it or not, critical reviews do matter. Whether its because reviews directly influence customers or whether its because reviews reflect market sentiment, reviews and sales seem to correlate. So, when a venue like G4 pans the Secret World, even when the review is biased heavily by clearly beta state content, it doesn’t reflect well for the prospects of the product.
So, is the Sky Falling, or what?
On the whole, I would say that the cries of the demise of the Secret World are exceptionally premature. There are a lot of people who want TSW to fail and they have used this story to jump from the pre-release fail stories to the “it’ll go F2P now for sure” bandwagon. However, I see little that immediately suggests TSW is in trouble.
As I noted earlier, populations appear to be quite strong. There are dozens of people in Agartha every evening. The Looking for Group channels are going strong. The new marketplace (bugs and all) is crammed full of items. TSW does not appear to be heading down the TOR/WAR path.
On the other hand, that stock price is alarming. A massive drop in stock prices usually triggers debt covenants which can, in turn, greatly impede a companies ability to operate until it restores its equity balance. There are reasonable questions to be answered as to the cash position of the company going forwards. However, these problems precede TSW.
The problems at Funcom are not the failure of TSW. Rather, it seems that TSW fails by the criteria of not being a Hail Mary which single-handedly resolves a company’s historically poor financial condition. TSW seems poised to be a profit center for the company and a strong part of Funcom’s financial restructuring.
There will be layoffs, there were going to be layoffs. First, game companies overstaff near the end of development, some of that will go – and they were going to go. Second, they did project too many sales and that will certainly lead to some cuts in customer service. If you expected 1mm customers and only have 500,000 you don’t need as many CSR’s to handle issues. Third, there will likely be some cash flow cuts – not as a reflection of the failure of TSW, but as a reflection of the failure of TSW to stem an already leaky ship.
Fans of TSW should be watchful, but not wary. If you like the game, by all means keep paying and playing. Not doing so pretty much guarantees the worst will happen. However, until you start hearing stories about senior producers, developers and managers of The Secret World departing or leaving the team, as has been the case with certain competitors, you shouldn’t consider the ship sunk!
The Story Continues in: An Obituary for the Subscription MMO
Read Ryahl's other Editorials at TSWGuides' Editorial Page.