Inside Social Games

This is a post by both Justin Smith and Charles Hudson

When we set out to write the Inside Virtual Goods: The US Virtual Goods Market 2009-2010 research report earlier this year, we wanted to gain a deeper understanding of the payments ecosystem throughout all popular virtual goods markets in the US, especially the booming world of social games. Given the explosion of payment companies focused on the social gaming market – from mobile payments to offers, large payment companies like PayPal to emerging programs like Facebook’s own “Pay With Facebook” – we wanted to understand where the money was really going.

So over the course of the next four months, we spoke with dozens of leading players in the industry, including: social game and free-to-play MMO developers, iPhone developers, offer companies, mobile payment companies, prepaid card companies, traditional payment companies, new companies building in-game payment widgets specifically for social games, and leading social networks. We gathered data from all of them through thorough interviews, synthesized what we heard from everyone to triangulate what we believe are the most accurate and in-depth estimates to date, and then passed our results by other industry experts (not in the research group) to sanity check our conclusions.

What did we find? To read our full analysis and outlook, you’ll need to get the report. But here’s a summary of our findings as it relates to offers specifically today:

Payment methods inside social games vary widely depending on the developer and aggregator. Based on our conversations with many industry leaders, we estimate that offers are generating just over 30% of all US social game virtual goods revenues in 2009, though some large developers don’t integrate offers at all, and a few developers report numbers over 50%. The remaining 70% is split between various methods of direct payment that we mentioned earlier.

As you might expect, offers often function as “on-ramps” to get players engaged with social games. However, once players become more engaged with a particular game, they increasingly migrate to direct payments because they usually need more currency than offers can provide to progress, and the same user is usually unwilling to take more than a couple offers in a given time period. Rather than giving personal information to more and more advertisers to take part in less appealing offers, users who are increasingly engaged with a particular game choose to pay more directly. So, almost by definition, games that succeed in growing ARPU (average revenue per user) and the base of paying users will tend to skew toward direct payments, as that’s the only way users can fund their accounts.

Most publishers are also surfacing direct payment methods via their offer partners. Only the largest and most sophisticated publishers (in general) are focused on direct integrations with payment gateways. Because of this, the offer aggregator often develops the optimization technology around which direct payment methods are most successful for different user segments within each game. For example, the aggregator may choose to display a greater variety of particular types of direct payment options that are more popular in certain regions, displaying more mobile payment options to adults in Europe or Asia than adults in the US, while displaying more prepaid card payment options to US teenagers than South American teenagers. The best payment methods often vary widely by location, age, and level of engagement.

Thus, the percentage of revenue going through offer partners is not necessarily the same as the percentage of revenue going to offers. Smaller developers in particular often generate their direct payments revenue via integrations with offer partners, going direct once they reach the scale to support taking it in house.

As we noted in our in-depth report on Inside Facebook today, we don’t know exactly what portion of offer revenues came from scammy offers, but we estimate it could be significantly more than the 20% of offers that offer networks now admit were scammy. We have yet to find any conclusive data on the scope of scam problems in offers, but we are continuing to investigate this.  Offer revenue will likely decrease in the short term as scams get continually rooted out, but it is clear is that industry-wide social gaming companies are deriving a large majority of their revenues through other payment methods.

Ultimately, the recent increase in media coverage of scam problems in offers could boost the fortunes of alternative direct payments, spurring developers to shift away from offers and integrate other direct payment methods more quickly. However, long term, we expect offers to continue to play a role in social game monetization, increasing in value as more large, high quality advertisers come into the space.