Digital Goods: Where to Invest?

What is driving the explosive growth in digital goods? Social gaming. The nice thing about running a credit card network is that you can see who is making money. No doubt a factor in last week’s $190M Visa acquisition of Playspan.

 17 Feb 2011

Digital goods are everything that can be sold and shipped online (music, movies, articles, ring tones). John Doerr (legendary KPCB Partner) certainly turned heads in Nov 2010 when he said Zynga is “our best company ever”.  What is driving the explosive growth in digital goods? Social gaming. The nice thing about running a credit card network is that you can see who is making money. No doubt a factor in last week’s $190M Visa acquisition of Playspan.

A key benchmark in the category of “digital goods” is Apple. Within Apple’s annual 10k digital goods revenue is accounted for within the  “Other Music Related Products and Services” category.  This category also includes app stores. For FY10 Apple saw a 93% increase in iPhone sales, but there was only a 23% uptick in “digital goods” (growth in line with previous 2 years). This makes intuitive sense given that Apple customers did not need to repurchase their iTunes library from iPod 1 to iPhone 4. But Digital Goods has certainly NOT been a key source of  growth for Apple. 

Lets take a look at Zynga. As I stated in previous blog,

…three years old with an estimated market value above $5 billion with more than 320 million registered users and estimated revenues above $500 million… From my perspective, Zynga’s secret sauce has been its ability to get 1-2% of their customer base to pay for game credits (see Gawker article). Although they have recently agreed to a 5 year deal with Facebook, this patent (if granted) will provide them leverage in future negotiations and extending their services outside of the Facebook platform.

For more info see TechCrunch / Steven Carpenter Zynga analysis (excellent)

The fortunes of Zynga have been tightly tied to the success of Facebook. Facebook’s new payment policy (mandating use of Facebook credits) will enable them to capture 30% of revenue. Zynga’s margins are obviously impacted in this move.. I’m sure many people immediately see the analogies here with today’s WSJ article (Apple Risks App-lash…) on Apple’s 30% digital goods tariff.  

As an investor, where do you place your social gaming bets?

A foundational digital goods investment question is your view on how social gaming can exist. Can social gaming survive in a model disconnected from Facebook and Apple? If you believe so, then possibly place bets in the Google model. Over the past 6 months, Google  has made five acquisitions in the field: SocialDeck, a mobile social gaming company; Angstro, a social networking search application; Like.com, a social fashion store; Jambool, a social gaming virtual currency; and Slide, a social game maker, and a $100M+ stealth investment in gaming giant Zynga.  Beyond Google, other views exist for social gaming in a mobile context  (MNO driven model).

Now that you have chosen the model (I’m tired of using the word ecosystem), where will your bet play? I see 5 categories:

  • Games (Zynga, EA, …)
  • Analytics/Incentives/Advertising
  • Distribution
  • Gaming Infrastructure. Example Payment, Hosting, Mobility, Support, …
  • Confluence. game-community, game-retail, game-mobile, game-mobile operator, … Example.. earn farm $$ by visiting a retail store and checking in..

Is social gaming a sustainable category? My personal preference is to place bets in common infrastructure until the next Zynga flourishes. Something I learned from Larry Ellison “when there is an arms race, don’t fight.. sell the guns”

Feedback appreciated..

Zynga Payment Patent Application

.. I have no Zynga account… and have never played Farmville, but with Kleiner’s John Doerr saying “Zynga is the most-profitable, fastest-growing, and has the happiest customers of any company that Kleiner Perkins has invested in ” I thought I would spend a little time

30 November 2010

Short Take – Random Thoughts

To be perfectly clear, I am no Zynga expert.. I have no Zynga account… and have never played Farmville, but with Kleiner’s John Doerr saying “Zynga is the most-profitable, fastest-growing, and has the happiest customers of any company that Kleiner Perkins has invested in ” I thought I would spend a little time assessing how a company that is just three years old can have an estimated market value above $5 billion with more than 320 million registered users and estimated revenues above $500 million.

Zynga of course is the leader in social gaming, started in Facebook and now available on mobile. They have proved that the old axiom “payments is the lifeblood of commerce” also extends to social gaming and “virtual commerce” (essence of Farmville). Their virtual success is also embedding itself into retail and traditional payments. For example, this Christmas I have just bought FarmCash using my American Express rewards (just announced today).

From my perspective, Zynga’s secret sauce has been its ability to get 1-2% of their customer base to pay for game credits (see Gawker article). Although they have recently agreed to a 5 year deal with Facebook, this patent (if granted) will provide them leverage in future negotiations and extending their services outside of the Facebook platform. The patent application itself is focused on value transfer and ensuring that digital currency never makes its way out of the system. From patent app:

…the virtual currency cannot be redeemed for legal currency. Consequently, the purchase is a one-way transaction that provides a benefit to the purchaser only in the context of the virtual environment….

Zynga Terms of Service also support these restrictions http://www.zynga.com/about/terms-of-service.php

d) Transfers of Virtual Currencies and Virtual Goods are strictly prohibited except where explicitly authorized within the Service. Outside of the game, you may not buy or sell any Virtual Currency or Virtual Goods for “real world” money or otherwise exchange items for value. Any attempt to do so is in violation of these Terms and may result in a lifetime ban from Zynga Service and possible legal action.

Regarding expansion plans, it would seem Google’s $100M-$200M investment in Zynga will drive a new GoogleGames platform. Which makes me wonder how many social gamers there really are?

PayPal Micropayment http://venturebeat.com/2010/10/26/paypal-microtransaction-support

Digital Goods Payment

There is a birth of new payment types brought on by digital goods. Companies like Zynga, Boku, PlaySpan, Bango, Zuora, SocialGold are being assessed at multiples exceeding 100x revenue. Social gaming is the focus of many of these companies, with estimated transaction volume of around $2.2B and expected market growth of 50-80% CAGR.

8 Nov 2010

There is a wealth of new payment types (and currencies) brought on by digital goods. Companies like Zynga, Boku, PlaySpan, Bango, Zuora, SocialGold (see list here) are being assessed at multiples exceeding 100x revenue. Social gaming is the focus of many of these companies, with estimated transaction volume of around $2.2B and expected market growth of 50-80% CAGR.

Quite exciting. Is it a “fad” and will these notional currencies be able with withstand the light of regulatory review?