Two-Part Tariff, meet MMOGs

While at the GameOn Finance event in Toronto, I found myself in an interesting conversation about ways to maximize the revenue generated by MMOGs. I found it difficult to fully express my thinking on the matter at the time, so during my flight home I wrote this post. Consider it a sneak previous into my upcoming IGDA Leadership Forum lecture on MBA Lessons applied to the game industry. :-)

One of the concepts I learned in business school was the “two-part tariff,” which is best explained through a simple example that we’re all familiar with: a nightclub. Most nightclubs generate the majority of their revenue from the sale of liquor. Why then do some of them also choose to charge a cover fee? Doesn’t that turn away potential customers? Well, part of the reason is simply to “keep out the riffraff,” but bouncers at the door can (and generally do) already reject anyone who looks like they won’t be a valued customer. Part of the reason is to project an aura of quality and/or exclusivity, but again, a velvet rope and an obstinate bouncer can already accomplish that as well.

Two kinds of customers

The third major reason for a cover charge at a nightclub is revenue maximization, pure and simple. Here’s the underlying rationale: nightclubs basically have two kinds of customers. One kind buys a lot of drinks (the especially valued customer buy a lot of the most expensive drinks.) The other kind buys one drink and nurses it all night, or even — heaven forbid — just a glass of water. Both kinds of customers are attracted to the nightclub because it offers music, attractive people to dance with, etc. Both kinds of customers clearly value the experience. But only one kind of customer will be profitable for the nightclub. Sound familiar?

So the nightclub does a very simple calculation. It asks, “what is the experience of being here worth to most people — or more accurately, just enough people that I can easily fill the place each night.” That estimate of worth becomes the cover charge. It extracts at least some revenue from the people who want to enjoy the nightclub but have no intention of paying if they don’t have to. The other customers — the ones who are likely to buy a ton of drinks — are not dissuaded by the cover charge because they already know going in that this is going to be an expensive experience for them. What’s five or ten more bucks at the gate?

Entry/Subscription fees and microtransactions are not mutually exclusive

It seems unfortunate to me that despite the existence of this very classic pricing example, many game developers seem to think that microtransactions and entry/subscription fees are mutually exclusive. But I’d argue that our industry’s equivalent of the “popular nightclub” — aka an MMOG with high production values and either A) strong IP and/or B) tremendous buzz — can take advantage of both. The thought process is the same for nightclubs and MMOGs: “how many people do I need to attract to make this an exciting environment for everyone to be in, and how much can I get away with charging as entry/subscription fee while still reaching that number?” Of course, that doesn’t mean you need to charge right from the get-go; there’s always the possibility of a free month’s trial (or something like that) to help build critical mass.

Maybe the subscription fee is $9.99 a month. Maybe it’s just $1.99 a month. The amount depends on the MMOG. And for many MMOGs, it’s clear that the amount is “zero.” There’s simply too much competition for customers in this space, and the competition is only going to get hotter over time. But for those MMOGs that can potentially justify a non-zero tariff, the truly important thing to remember is this: you can always drop price. Raising it is MUCH harder. If your experiment with a two-part tariff fails, eliminate the tariff. You might have lost a little momentum building towards critical mass, but odds are the delay won’t prove to be a critical error as long as the tariff itself wasn’t insultingly high to begin with.

Will it offend players? Not if handled correctly

The major objection to my argument seems to be that “people who pay a subscription fee will be offended if some players can pay to get an advantage.” It’s not clear to me that this is true, but let’s take for granted that it is. There is still a whole host of things you can sell that do not convey any sort of strategic benefit in game. Call them “status items” and “gifts.” A really cool-looking outfit, or virtual flowers. Or perhaps even an in-world home.

Now, it may be that an existing MMOG (like World of Warcraft) may not be able to institute microtransactions after the fact, because it has been around long enough that players have developed an expectation for “how the world works.” But a new MMOG faces no such preconceived notions. And if said “new MMOG” happens to be, as I mentioned, a likely equivalent of the “popular new nightclub in town,” the developers of that MMOG absolutely should consider a two-part tarriff revenue model.

276 Responses to Two-Part Tariff, meet MMOGs

  1. Interesting article, David!

    I haven’t explored exactly what you suggest, but for one of the projects I’m currently consulting on – a Flash CCG based on a kids TV program – I’m considering implementing a subscription fee that grants x amount of virtual currency every month. I.e. pay $5/month, get 500 points to spend on cards. At any time, you can also top up by purchasing points with add’l cash.

    But I’ve still allowed for free players, as I believe that unless your product is insanely popular already, free players provide the masses that fuel a lot of microtransaction purchases (i.e. status items require a community large enough to be worth showing off to). A large player base also ensures that there is always someone to match-make with, which in the case of the CCG is crucial to justifying the purchase of cards.

    So I’d be less comfortable in the situation I describe above moving to a pay-at-the-gate model. No matter how low that gate tariff is, the penny gap would cut the player base by 90% in most games.

  2. Hey Adrian — you’ve got the basic idea; the concept of two-part tarrif is primarily applicable to only a small percentage of MMOGs that have the benefit of high production values and either A) strong IP and/or B) tremendous buzz. That said, I wouldn’t automatically assume that for every other MMOG, permanently free is the only option. Random example: what about a four month free trial period? That gives a game more than enough time to attract an audience and demonstrate real value. A properly sticky MMOG would hopefully then be able to extract some small amount in montly, quarterly, or yearly sub. Obviously, this is still only applicable to the upper crust of MMOGs; those particularly impressive and/or unique and well-targeted games. I would agree that other MMOGs (i.e., the majority) probably can’t survive in any mode other than “always free.”

  3. A good way to handle this would be requiring a time-sensitive commodity or service in-game in order to operate (rather than play the game at all). If you go past your first month without spending $1.99 worth of virtual currency on rent, or food, or a ticket to Narnia ect. then you can float around like a ghost, effectively, without interaction. Upfront is right out.

  4. Adrian beat me to it, but I was going to suggest similar. $X per month which gives you $Y credit for in-game item purchases. X could equal Y or maybe not.

    To extend your nightclub analogy, some clubs (e.g. Tokyo ones do this a lot) have an entry fee that comes with N ‘free’ drinks. No difference between that and saying N drink minimum with no entry fee.

    I’m sure there’s room to combine them, but there are differences in the game design, I’d imagine. Sub-driven games looking to get people on a levelling treadmill – good hearty fun you have to earn your way through. the item-driven games are fun from day one, but you can increase your standings or showboat via ingame items.

    To dial up the tension on that argument to make the point: Ideal customer in paid-item game is someone who comes in and blows $1000 in one night decking himself out to be the cats meow. Someone who does the same in WoW (via a goldfarmer or whatever) is reviled.

    So, you have to have a game that supports both gameplay models in an orthogonal, non-conflicting fashion, so that neither group is bothered by the presence and measure of success of the other.

    “Tastes great, less filling”?

  5. Great to see the write up, David. (BTW, for the benefit of others, I was a (small) part of this discussion while at the GameON:Finance conference)…

    The club analogy doesn’t quite fit right, as the managers have to contend with limited space. Maximizing revenue per body-space is key, and drives the economics of the club.

    This does not hold true in MMO/VW settings, and as such the same logic doesn’t quite apply.

    Though, agreed, the various payment methods do not have to be mutually exclusive…

    Jason

  6. > The club analogy doesn’t quite fit right, as the managers have to
    > contend with limited space. Maximizing revenue per body-space is
    > key, and drives the economics of the club.

    Hey Jason — while the appeal of the “two part tariff” concept may increase if you have limited physical space for customers, it is ultimately independent of space/bandwidth considerations. Whether you can support 100 or 100 million customers, the question remains: what is the most effective way to maximize your revenue from those customers who ultimately choose to engage your business? (Revenue, not profit.)

    A $10 tariff is unlikely to discourage the visitor who has $1,000 to spend on booze or virtual items. So what percentage of the other visitors (let’s call them “normals,” since they comprise the vast majority) will walk away because of the tariff, and how many will pay? If even a small percentage choose to pay (enough to maintain a vibrant world for the rich kids to play in) then the revenue generated by those players may well exceed the revenue “lost” to normals who chose not to stick around. In fact, I’d go so far as to call that scenario extremely likely, because as we all know, the vast majority of normals do not ever pay a cent to play. And like I mentioned earlier, the rich kids are unlikely to be deterred by the tariff.

    Now, you could argue that a tariff will depress word of mouth — which may lead to a smaller number of rich kids finding their way to the virtual world — but it’s not clear how much of a problem that would actually be for a well-marketed virtual world with a reasonably long free trial. And it’s also not clear that the loss of a few rich kids would outweigh the revenue extracted from the normals who would have free-ridden but who are now paying a tariff. So bottom line, I’m still pretty enthusiastic about this (for the right MMOG!)

  7. Aren’t AAA MMOS already using the Nightclub example since they charge $50 for the game to begin with? That cost includes your first month sub, which for WoW is $15. That means you’re still shelling out $35 just for the code that lets you create an account. This is germane to your argument about microtransactions, but it’s a legitimate barrier to entry that new players need to deal with.

    Since you’ve been talking about MBA Lessons, can you think about the accounting ramifications here? Maybe you’re as unqualified to think about this as I am, I’m not sure. I know that Apple has been showing iPhone revenues on a subscription model so that they can deliver free OS upgrades. This has caused the iPhone’s success to not appear as AMAZING as it would if they accounted for this differently. Is there a difference in the way that the $50 cost of admission is accounted for differently than a subscription that is beneficial to a company? Does the same apply for a microtransaction vs a subscription?

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