The Disappointment of Online Advertising

August 5, 2003

The recent DFC Intelligence report, The Online Game Market 2003 (see press release; see table of contents), goes into substantial detail about consumers subscribing to online games, most notably the massively multiplayer online role-playing games where consumers pay as much as $15 a month.  The handful of games that can support this business model have proven to be quite profitable.  However, there is another side of online games that to date has proven to be a disappointment: advertising-supported games.  Our new report goes into a great deal of detail about the types of online advertising, market challenges and detailed forecasts for attracting online advertising in games.  In addition, we provide numerous case studies of companies that have tried to build an advertising supported online game business.  This month we thought we would provide a brief overview of our thoughts on advertising in online games.

 The Original Assumption for Online Game Advertising:

• Games are very sticky content that will keep people engaged for a long time.
• If you can build top quality games you will attract a loyal and potentially large audience.
• The online world allows for compelling and innovative advertising that will have much higher return on investment than traditional advertising.
• Because online advertising is so much more effective than traditional advertising it will be able to command a much higher CPM.
• Game consumers will buy a lot of stuff from an online game site.  This will mean significant e-commerce revenue.

The Reality For Online Game Advertising (So Far)

·        The online audience has been fragmented among many different sites.

·        The unique format of online advertising has meant high creative costs.

·        Advertisers have not been very interested in small niche audiences.

·        Online sites have found there is a long ad selling cycle and few large advertising buys.

·        There has been no premium on CPMs.  In fact, there has been a downward trend on CPMs and game sites command some of the lowest CPMs on the Internet.

·        The costs of content development and ongoing maintenance have been much higher than expected.

·        Many games are simply not suited for advertising.

For years it was argued that for online games to become a major industry they would need to be largely advertising supported.  Indeed, there is still a general expectation that online content needs to be free to the end-user.  The attitude is that, outside of the hard-core consumer, people will simply not pay for online content.  Thus, many people believe that advertising is the only way to get a mass-market audience.  However, there is a real question of whether advertisers can be convinced to spend significant sums of money online.  More specifically, will advertisers pay for game consumers? 

Sites that rely heavily on advertiser support must build and maintain large amounts of traffic and provide a measure of ad effectiveness. Properly designed entertainment sites that provide gaming, information and related merchandise can generate sufficient traffic.  In theory this would permit higher advertising rates to be charged and attract a wider assortment of advertisers.  The problem is that 1) only a few game companies will likely be able to build an audience to attract enough advertising revenue to support the service and 2) building an audience is only the first step, managing advertising is an entirely separate business, beyond the skill set of most game companies.  A game company that wants to rely on advertising as a major source of revenue better have solid partnerships.  This is not a space for small startups that wish to get it alone. 

There have been a lot of believers in the advertising model.  Furthermore, advertising would seem to work well for games, because games are “sticky” content that attract a loyal audience that tends to stay in one place for a long time.  However, even the most optimistic now seem to agree that advertising will only work for a handful of companies and products.  It is worth noting that in the television industry ABC, CBS, NBC and Fox are the only major players to survive on advertising alone.  A similar trend is occurring in the online world, where the top sites attract the vast majority of advertising spending.

An interesting example of a game site that thought it could attract advertising revenue is Bezerk.  Bezerk was the creator of the popular trivia game, You Don’t Know Jack.  This game had mass-market appeal and was considered perfect for interstitial ads while people waited between questions.  Bezerk started an online site in 1996 with some of the first interstitial ads.  Unfortunately, Bezerk was before its time.  They found that the costs associated with ongoing development were higher than expected.  While, the site had solid traffic, it was not large enough to attract big advertising buys.  Furthermore, the unique format meant a high creative cost that meant a lot of extra work for the advertiser.  Bezerk was simply too small and too unique for advertisers to bother with.  In the end, Bezerk became part of a larger entity, Havas’ Won.net.  Won.net in turn merged with PrizeCentral to form a still larger entity, Flipside, now owned by Vivendi Universal (through its acquisition of Havas).  Today Won.net and Bezerk are no more. 

Of course, most companies assume that they will be one of the top sites.  Many people still believe that the largest companies will be advertising supported.  One executive we talked to said the fact that NBC is bigger than HBO is proof of the enormous potential for advertising. 

However, even if advertising becomes a major revenue source, game publishers are simply not equipped to sell advertising.  Just look at how the largest independent software publisher, Electronic Arts, is relying on America Online to handle its advertising sales.  Electronic Arts supplies the content that is designed to keep consumers engaged to view advertising. AOL handles the advertising sales and the two companies split the revenue.

Of course, there is a big difference between advertising as a supplemental source of revenue and advertising as the main source of revenue. This is especially true for games that are sold at retail with free online play.  In these cases, advertising can act as a supplement that helps support the cost of maintaining the online component of the product.  However, once again, the question becomes who will sell the advertising.  Most game publishers are simply not equipped to sell advertising.

There is also the question of whether games are truly suited for advertising.  Many people have expressed concern that advertising would ruin the integrity of many games.  As a rule, it seems that hard-core gamers are opposed to advertising.  Not all products are suited for advertising.  Advertising often does best in products that are more shallow and consumed in shorter sessions, such as magazines or television. 

It may be the simple games that are best suited for advertising.  Some of the more casual, less intense, games like trivia and card games seem perfect for all forms of advertising.  It is hard to imagine advertising in traditional computer games like Quake or EverQuest.  However, pure information about games is a major attraction to both moderate and hard-core gamers.  These gamers tend to read about the games they play.  So integrating a game information site with a gameplay site may be a way to attract advertisers to hard-core gaming sites.  Nevertheless, advertising to moderate and hard-core gamers is more likely to be highly targeted as opposed to pure branding opportunities.   

In the end, DFC believes that advertising alone is unlikely to support the online game industry.   Historically, the only industries that have been advertiser supported are broadcast television and broadcast radio.  Cable television is not ad supported, but instead a combination of ad's and user fees.   Furthermore, television is very different from online because it has a limited supply of channels and costs do not scale with the number of users.  At best, the online industry can be compared to the magazine industry.  There are thousands of magazines and the costs of delivering a magazine increases for each new user.  As a result, the magazine industry gets its revenue from a combination of user fees and advertising.        

The good news is that DFC forecasts that online games will attract a significant amount of usage.  A great deal of consumer leisure time should be spent playing online games.  The challenges companies face is figuring out how to monetize that usage.  Sponsorships, coupons and loyalty programs are a largely unexplored area that would seem to have great potential with online games.

However, that is the future.  The current trend is to look for revenue from consumer subscription fees, not advertising.  Once again this is perhaps best shown by one of the industry’s largest players, Electronic Arts, and their efforts with EA.com.  In terms of usage, EA.com is one of the most popular sites for games.  However, for fiscal 2002, EA.com earned only $38 million in revenue.  Right now that figure looks like a peak.  In fiscal 2003, EA.com earned only $32 million from advertising revenue and Electronic Arts has indicated that future EA.com revenue growth (assuming there is any) is expected to come from subscription fees, not advertising.      

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DFC Intelligence’s research services provide detailed strategic analysis of the interactive entertainment industry. 

A sample of recent reports on the video game and PC game market include::

Worldwide Market Forecasts for the Video Game and Interactive Entertainment Industry Released April 2003, this 500+ page report contains complete forecasts for all individual console and portable game platforms by region (Asia, Europe/PAL, U.S.) through 2007.  Also included are PC game forecasts and historical sales figures.  The report has several scenarios for future market growth including an analysis and forecasts for new systems from Sony, Microsoft and Nintendo, as well as new portable game systems.

Market Leaders in the Video Game and Interactive Entertainment Industry This 600+ page report profiles major companies in the interactive entertainment industry. Each individual company report is about 15-40 pages and has an historical background, financial overview, product analysis and a frank assessment of the outlook for that company. 

The Online Game Market This 475 page report contains a comprehensive analysis of the online gaming market.  Includes current sales trends, market forecast, and in-depth company profiles.

Other DFC reports include The Business of Video and Computer Games, The State of Game Technology, The Video Game and PC Game Consumer and The Executive Interview Series.

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