@mitchlasky is a partner at Benchmark and one of the leading figures in the video game industry. In his last appearance on @InvestLikeBest, he discusses his views on the industry and the future of gaming. This episode is a goldmine of information and here are key insights:

There are not many famous gaming investors, public or private, unlike in so many other sectors and industries where there's a lot of enterprise value, which is, in fact, very interesting as games were always viewed as an entertainment business.

The real investors in the games business are the aggregators and the publishers, not really the venture capitalists and there wasn't really a model that was well understood by the venture industry about how you could translate success in the games business into value.

In the early 2000s, the so-called forever games started to appear, World of Warcraft or League of Legends.

Historically with the console, PC, and even mobile business, games were short-lived, and from an investor’s perspective it was hard to figure out continuity of value when you had that temporal mismatch between the way the business rolled out and the needs of the investor.

But generations change, and so do views. The things happening now in the business are a new crop of investors coming in behind those who had learned from past experiences. It's never been a better time in the history of venture for games companies to raise private money.

There are several important features of the modern business gaming model: first off, one has to understand that it is ultimately a customer acquisition.

It's not necessarily always just about retention, which also plays an important role.

Then, the other thing is that it's very much driven by content and network effects in a way that a lot of investors are somewhat unfamiliar or may be uncomfortable making calls because you kind of have to make an aesthetic call.

It's very hard to look purely at the metrics of something, particularly at the early stage and say that this is going to work.

With the games business, it is harder to do: the metrics can be manipulated in the early days through enthusiasts coming on board early, but the product not making the transition to the mass market or aggressive customer acquisition spending early on, which distorts the KPIs.

Fun is an integral part of any game, and you should focus on what you do the most frequently in the game.

For example, in Doom, which is just a shooter, the player shoots things, moves in a three-dimensional environment through a maze, looking around.They are occasionally finding keys, opening doors, finishing levels, and then progressing.

One should focus on that high-frequency activity, what is the thing in the game that you do the most frequently, and if it is pleasurable.

This is a really key component of it because most of the products that fail have a mismatch between the constancy of the activity and the pleasure of that activity.

Business Lessons From Game Development and Distribution

The creation of Steam was a way of delivering something that made the game better, but, in fact, there’s been two paths to the creation of these platform-based publishers.

One of them is take an existing aggregation and migrate it into the games domain, and Tencent is probably the world's most important example of this, where you have QQ and WeChat, and you have a billion users already aggregated on those things.

Those people want to play games, and you just create a games layer on top of an existing user aggregation.

But almost all of the other ones have come from using a piece of must-have hit-driven content to seed the aggregation. For example, Disney are taking their Star Wars asset, must-see TV content, and they're aggregating it together on a platform and that's pulling users in.

At the same time, we've moved from the original publisher model to the more platform-based model, but also from the shiny disc to the instant download and the much lower cost of goods for delivering games.

With that in mind, monetization patterns have also changed, both in terms of dollars and in terms of margin.

In the past, we had a simple strategy: the person that loves the game the absolute most is paying the same as someone that tries it for five minutes and quits, which is very different from the modern free-to-play world where you can have a much bigger demand curve if you will

In fact, you monetize users at very different levels and very different business models. And this is the key insight for understanding the modern games business, this change from an inelastic pricing model to an elastic pricing model.

A big soccer nut goes every year to Target or Best Buy or whatever, and buys a copy of FIFA from Electronic Arts. They are going to to play it for a zillion hours.

In the meantime, this has changed a little bit recently because Electronic Arts and some of the other console publishers have gotten hip to the idea of downloadable content and ways to monetize people like me outside of that initial purchase.

So, you got those 60 bucks and that was all you were going to get from them.

Meanwhile, another one goes to the same store, buys the same disc for $60, plays it for 10 hours, sticks it in a sock drawer and they're done. Yet, essentially, Electronic Arts has basically treated us as if we were identical users.

However, starting in 2005, a new paradigm reveals a new approach: you got the entire game for free. And the way they monetized was they would sell you cosmetic items and other things to enhance your experience, to give you status within the world, other things like that.

And it was a massive success and it proved to industry that you could use this giving the game away for free, which is one of the great marketing advantages of all time. So the 10-hour person mentioned above is going to pay you potentially or not pay you as the case may be.

But the soccer nut, the thousand-hour person is going to pay you insane amounts of money and thus the rise of the modern whale.

Anyways, games are really hard business to model. Some of the games when they come out, they'll be relatively flat for the first 6, 9, 12 months while the team is really digging into what is working.

And nullsec had no security and it was complete free fire zone. And in many ways, it was much more of a user generated play experience. They were much more in control of the game.The monetization hooks that are in the game, which ones are succeeding and which ones are not?

So for example, in the League of Legends context, an early surprising thing that was heavily monetizing were these potions that allowed for multiplying your grind.

If you were trying to gain experience points, you could go in, if you played for 10 hours, you'd get 10 experience points for those 10 hours. But there are people who have jobs, who have lives, who have families, who can't go in and grind for 10 hours.

So we would sell them a potion where if they would buy the potion and apply it, if they went in and did the grind for two hours, they could get 10 hours worth of credit.This was very important because you still had to grind.

So there wasn't a pay-to-win component to this and pay-to-win is something that can massively disrupt the community around the video game and something that gamers hate.

Mobile has really reinforced the move to free-to-play because obviously when 2,000 games are being launched in the App Store every month, it's impossible to get somebody to pay for anything up front.

It's created a lot of interesting innovations around monetization strategies in conjunction with free to play. It's been a real laboratory for experimentation.

On the negative side, it's brought out the worst in customer acquisition dark patterns, pushing people, pushing installs, incentivized installs.

As for AR and VR, there have been some examples, but VR doesn't seem to have a game that's completely taken off yet. There doesn't seem to be real evidence that mobile is on its way out.

While the experience of VR is visceral and primal in a lot of ways, you put on the headset, you're in the Jurassic World or wherever you are, there are a lot of drawbacks to it like you're shielded from the rest of the world. You're in your own little environment.

You're wearing these hot and heavy glasses on your head. The computational power of them is still pretty primitive. The graphical quality of them is still pretty primitive. It's just not compelling as a user experience.

While VR hasn’t shown up as an enabling technology platform, Twitch and Discords certainly have, and they did change the gaming business, the gaming distribution model.

Online platforms, such as YouTube and then Twitch, are the most important non-game drivers of the gaming industry in the world. The feedback loop is enormous, it's marketing.

It's a level of customer acquisition that you couldn't buy if you tried. There’s a very interesting phenomenon where there were times early in Twitch's history where 50% of the streams were League of Legends.

So it was like a two company network effect. Twitch benefited from the usage of League of Legends and League of Legends benefited from the usage of Twitch and they reinforced each other.

There’s an interesting category in games, the so-called ‘forever games’, those that have been around forever, for example, Minecraft. You can keep milking the Star Wars or the Marvel, but in some ways, it does feel like a bit of a depleting oil well.

The marginal Marvel property is just not as good in the last several years. The marginal Star Wars one, the same thing. Whereas League of Legends seems pretty constant in terms of what it is as a thing and as popular as ever.

And there’s a secret to that: first of all, we have a somewhat distorted view of the longevity of games based on the games business. If you look back historically at very successful play patterns, they have incredibly long lifespans.

You could have sat down with Leonardo DaVinci and played a credible game of chess. It hasn't changed that much since the 14th century. Backgammon is thousands of years old and it's still played pretty much in the same manner that it was played thousands of years ago.

Fun gameplay patterns are incredibly durable. The nature of consumption in the video game business has perverted our understanding of that. It's made us think that there's got to be massive turnover and innovation constantly.

If you strip away the companies and the IP, and you really look at the play patterns, things like first person shooters, adventure games, massively multiplayer online role playing games, MMOs go back to the DikuMUDs that were invented in Copenhagen back in the early '90s.

And frankly, they haven't changed that much. We're still using that same design pattern to create modern MMOs.

Nowadays, the Ponzi motivation is reigning in the gaming industry, but there are key categories of potential motivation that could replace the Ponzi motivation of getting more people in so the prices rise.

One of the places where it's been actually quite interesting comes out of EVE Online where they created these concentric circles of moderation, where if you were new and you were in the main zone.

You were preyed upon by a super user, a shark, there was a security mechanism in place that protected you to some extent. But then at the fringes of the game were these places called null space, nullsec.

And nullsec had no security and it was complete free fire zone. You had a built in meta gamer, elder game where the more experienced users could migrate out to these spaces and they had a very different play experience.

And in a lot of ways, it was much more of a user generated play experience. They were much more in control of the game.

Some people think that transition to more Persistent Universes that are bigger in scope with more concurrent players is inevitable and a very hyped up potential future.

But in reality is not an accident that the three major periods of virtual reality investment and innovation coincided with the publishing of three key novels, Neuromancer back in the '80s from William Gibson, Snow Crash from Neal Stephenson, and then Ready Player One.

They were almost identical in time to the publications of those books. People still read books. It's a very low bandwidth activity, but you can conjure worlds in your mind through something as simple as reading text.

It is hardly possible that we need to get to this end state of fully immersive virtual reality and haptics in order to make these virtual experiences happen. The harder question is another subset of integration.

In order to make these things work, we have to agree on protocols, which are going to allow us to interoperate. That is a massively non-trivial problem. Avatars could be the first layer that gets protocolized.

Being able to take currency that you've mined in one game and spend it in another game is going to require a level of trust and it's going to make the international monetary system seem like child's play. How are you going to translate those experiences?

What is a dollar of Call of Duty money worth in Fortnite? We haven't even really crossed these bridges intellectually, let alone coded them. Obviously, Meta's strategy is we're going to make it happen within the context of a walled garden.

Now, they obviously have business reasons for pushing it in that direction, watching the Apple example and seeing how the hardware, software integration and platform integration creates the largest company in the history of mankind.

Another trend that should be paid attention to is consolidation of distribution, for example, Microsoft Game Pass, which seems like a really interesting thing that has happened.

The ability to access tons of games through a subscription that's annual, that for Microsoft at least, seems much more software like than the hardware of Xbox. It seems like a really interesting business decision on their part.

It's difficult to make those kinds of innovations when there's a lot of water under the bridge with Xbox and DirectX and Windows and all these other things.

This ability to virtualize the Xbox as a platform rather than as a hardware appliance is one of the underappreciated business moves in the history of the video game business.

It makes people download and play games they would never have considered buying before and frankly would not have even considered seeking out independently to download on a free to play basis.

In the mobile business, it could be a little bit more amenable in the sense that there is a pattern of usage where people download a lot of content and churn through it pretty quickly. The PC gaming experience is a little bit more high investment, high learning curve.

@mitchlasky is a partner at Benchmark and one of the leading figures in the video game industry. In his last appearance on @InvestLikeBest, he discusses his views on the industry and the future of gaming. This episode is a goldmine of information and here are key insights:

There are not many famous gaming investors, public or private, unlike in so many other sectors and industries where there's a lot of enterprise value, which is, in fact, very interesting as games were always viewed as an entertainment business.

The real investors in the games business are the aggregators and the publishers, not really the venture capitalists and there wasn't really a model that was well understood by the venture industry about how you could translate success in the games business into value.

In the early 2000s, the so-called forever games started to appear, World of Warcraft or League of Legends.

Historically with the console, PC, and even mobile business, games were short-lived, and from an investor’s perspective it was hard to figure out continuity of value when you had that temporal mismatch between the way the business rolled out and the needs of the investor.

But generations change, and so do views. The things happening now in the business are a new crop of investors coming in behind those who had learned from past experiences. It's never been a better time in the history of venture for games companies to raise private money.

There are several important features of the modern business gaming model: first off, one has to understand that it is ultimately a customer acquisition.

It's not necessarily always just about retention, which also plays an important role.

Then, the other thing is that it's very much driven by content and network effects in a way that a lot of investors are somewhat unfamiliar or may be uncomfortable making calls because you kind of have to make an aesthetic call.

It's very hard to look purely at the metrics of something, particularly at the early stage and say that this is going to work.

With the games business, it is harder to do: the metrics can be manipulated in the early days through enthusiasts coming on board early, but the product not making the transition to the mass market or aggressive customer acquisition spending early on, which distorts the KPIs.

Fun is an integral part of any game, and you should focus on what you do the most frequently in the game.

For example, in Doom, which is just a shooter, the player shoots things, moves in a three-dimensional environment through a maze, looking around.They are occasionally finding keys, opening doors, finishing levels, and then progressing.

One should focus on that high-frequency activity, what is the thing in the game that you do the most frequently, and if it is pleasurable.

This is a really key component of it because most of the products that fail have a mismatch between the constancy of the activity and the pleasure of that activity.

Business Lessons From Game Development and Distribution

The creation of Steam was a way of delivering something that made the game better, but, in fact, there’s been two paths to the creation of these platform-based publishers.

One of them is take an existing aggregation and migrate it into the games domain, and Tencent is probably the world's most important example of this, where you have QQ and WeChat, and you have a billion users already aggregated on those things.

Those people want to play games, and you just create a games layer on top of an existing user aggregation.

But almost all of the other ones have come from using a piece of must-have hit-driven content to seed the aggregation. For example, Disney are taking their Star Wars asset, must-see TV content, and they're aggregating it together on a platform and that's pulling users in.

At the same time, we've moved from the original publisher model to the more platform-based model, but also from the shiny disc to the instant download and the much lower cost of goods for delivering games.

With that in mind, monetization patterns have also changed, both in terms of dollars and in terms of margin.

In the past, we had a simple strategy: the person that loves the game the absolute most is paying the same as someone that tries it for five minutes and quits, which is very different from the modern free-to-play world where you can have a much bigger demand curve if you will

In fact, you monetize users at very different levels and very different business models. And this is the key insight for understanding the modern games business, this change from an inelastic pricing model to an elastic pricing model.

A big soccer nut goes every year to Target or Best Buy or whatever, and buys a copy of FIFA from Electronic Arts. They are going to to play it for a zillion hours.

In the meantime, this has changed a little bit recently because Electronic Arts and some of the other console publishers have gotten hip to the idea of downloadable content and ways to monetize people like me outside of that initial purchase.

So, you got those 60 bucks and that was all you were going to get from them.

Meanwhile, another one goes to the same store, buys the same disc for $60, plays it for 10 hours, sticks it in a sock drawer and they're done. Yet, essentially, Electronic Arts has basically treated us as if we were identical users.

However, starting in 2005, a new paradigm reveals a new approach: you got the entire game for free. And the way they monetized was they would sell you cosmetic items and other things to enhance your experience, to give you status within the world, other things like that.

And it was a massive success and it proved to industry that you could use this giving the game away for free, which is one of the great marketing advantages of all time. So the 10-hour person mentioned above is going to pay you potentially or not pay you as the case may be.

But the soccer nut, the thousand-hour person is going to pay you insane amounts of money and thus the rise of the modern whale.

Anyways, games are really hard business to model. Some of the games when they come out, they'll be relatively flat for the first 6, 9, 12 months while the team is really digging into what is working.

And nullsec had no security and it was complete free fire zone. And in many ways, it was much more of a user generated play experience. They were much more in control of the game.The monetization hooks that are in the game, which ones are succeeding and which ones are not?

So for example, in the League of Legends context, an early surprising thing that was heavily monetizing were these potions that allowed for multiplying your grind.

If you were trying to gain experience points, you could go in, if you played for 10 hours, you'd get 10 experience points for those 10 hours. But there are people who have jobs, who have lives, who have families, who can't go in and grind for 10 hours.

So we would sell them a potion where if they would buy the potion and apply it, if they went in and did the grind for two hours, they could get 10 hours worth of credit.This was very important because you still had to grind.

So there wasn't a pay-to-win component to this and pay-to-win is something that can massively disrupt the community around the video game and something that gamers hate.

Mobile has really reinforced the move to free-to-play because obviously when 2,000 games are being launched in the App Store every month, it's impossible to get somebody to pay for anything up front.

It's created a lot of interesting innovations around monetization strategies in conjunction with free to play. It's been a real laboratory for experimentation.

On the negative side, it's brought out the worst in customer acquisition dark patterns, pushing people, pushing installs, incentivized installs.

As for AR and VR, there have been some examples, but VR doesn't seem to have a game that's completely taken off yet. There doesn't seem to be real evidence that mobile is on its way out.

While the experience of VR is visceral and primal in a lot of ways, you put on the headset, you're in the Jurassic World or wherever you are, there are a lot of drawbacks to it like you're shielded from the rest of the world. You're in your own little environment.

You're wearing these hot and heavy glasses on your head. The computational power of them is still pretty primitive. The graphical quality of them is still pretty primitive. It's just not compelling as a user experience.

While VR hasn’t shown up as an enabling technology platform, Twitch and Discords certainly have, and they did change the gaming business, the gaming distribution model.

Online platforms, such as YouTube and then Twitch, are the most important non-game drivers of the gaming industry in the world. The feedback loop is enormous, it's marketing.

It's a level of customer acquisition that you couldn't buy if you tried. There’s a very interesting phenomenon where there were times early in Twitch's history where 50% of the streams were League of Legends.

So it was like a two company network effect. Twitch benefited from the usage of League of Legends and League of Legends benefited from the usage of Twitch and they reinforced each other.

There’s an interesting category in games, the so-called ‘forever games’, those that have been around forever, for example, Minecraft. You can keep milking the Star Wars or the Marvel, but in some ways, it does feel like a bit of a depleting oil well.

The marginal Marvel property is just not as good in the last several years. The marginal Star Wars one, the same thing. Whereas League of Legends seems pretty constant in terms of what it is as a thing and as popular as ever.

And there’s a secret to that: first of all, we have a somewhat distorted view of the longevity of games based on the games business. If you look back historically at very successful play patterns, they have incredibly long lifespans.

You could have sat down with Leonardo DaVinci and played a credible game of chess. It hasn't changed that much since the 14th century. Backgammon is thousands of years old and it's still played pretty much in the same manner that it was played thousands of years ago.

Fun gameplay patterns are incredibly durable. The nature of consumption in the video game business has perverted our understanding of that. It's made us think that there's got to be massive turnover and innovation constantly.

If you strip away the companies and the IP, and you really look at the play patterns, things like first person shooters, adventure games, massively multiplayer online role playing games, MMOs go back to the DikuMUDs that were invented in Copenhagen back in the early '90s.

And frankly, they haven't changed that much. We're still using that same design pattern to create modern MMOs.

Nowadays, the Ponzi motivation is reigning in the gaming industry, but there are key categories of potential motivation that could replace the Ponzi motivation of getting more people in so the prices rise.

One of the places where it's been actually quite interesting comes out of EVE Online where they created these concentric circles of moderation, where if you were new and you were in the main zone.

You were preyed upon by a super user, a shark, there was a security mechanism in place that protected you to some extent. But then at the fringes of the game were these places called null space, nullsec.

And nullsec had no security and it was complete free fire zone. You had a built in meta gamer, elder game where the more experienced users could migrate out to these spaces and they had a very different play experience.

And in a lot of ways, it was much more of a user generated play experience. They were much more in control of the game.

Some people think that transition to more Persistent Universes that are bigger in scope with more concurrent players is inevitable and a very hyped up potential future.

But in reality is not an accident that the three major periods of virtual reality investment and innovation coincided with the publishing of three key novels, Neuromancer back in the '80s from William Gibson, Snow Crash from Neal Stephenson, and then Ready Player One.

They were almost identical in time to the publications of those books. People still read books. It's a very low bandwidth activity, but you can conjure worlds in your mind through something as simple as reading text.

It is hardly possible that we need to get to this end state of fully immersive virtual reality and haptics in order to make these virtual experiences happen. The harder question is another subset of integration.

In order to make these things work, we have to agree on protocols, which are going to allow us to interoperate. That is a massively non-trivial problem. Avatars could be the first layer that gets protocolized.

Being able to take currency that you've mined in one game and spend it in another game is going to require a level of trust and it's going to make the international monetary system seem like child's play. How are you going to translate those experiences?

What is a dollar of Call of Duty money worth in Fortnite? We haven't even really crossed these bridges intellectually, let alone coded them. Obviously, Meta's strategy is we're going to make it happen within the context of a walled garden.

Now, they obviously have business reasons for pushing it in that direction, watching the Apple example and seeing how the hardware, software integration and platform integration creates the largest company in the history of mankind.

Another trend that should be paid attention to is consolidation of distribution, for example, Microsoft Game Pass, which seems like a really interesting thing that has happened.

The ability to access tons of games through a subscription that's annual, that for Microsoft at least, seems much more software like than the hardware of Xbox. It seems like a really interesting business decision on their part.

It's difficult to make those kinds of innovations when there's a lot of water under the bridge with Xbox and DirectX and Windows and all these other things.

This ability to virtualize the Xbox as a platform rather than as a hardware appliance is one of the underappreciated business moves in the history of the video game business.

It makes people download and play games they would never have considered buying before and frankly would not have even considered seeking out independently to download on a free to play basis.

In the mobile business, it could be a little bit more amenable in the sense that there is a pattern of usage where people download a lot of content and churn through it pretty quickly. The PC gaming experience is a little bit more high investment, high learning curve.