With Christmas a fortnight away, you might be thinking about gifts to give your friends and family. And if you’re under 40, or live with someone who is, chances are that one of those will be computer-game related.
A survey last year suggested that 72% of people in the UK aged between 35 and 44 have played at least one video game in the past six months. It’s a similar story in the US, Europe and most of the developed world.
A lot of this is people playing on their smartphones on the way into work, which is itself a major industry. But the number of ‘hardcore’ gamers willing to spend hefty sums on the latest release is also growing rapidly.
Last month, 20 million copies of the science fiction game Fallout 4 were sold in the first 24 hours of release, generating $750m in sales. Shortly before that, the military-themed Call of Duty: Black Ops 3, racked up $550m in its first 72 hours.
That’s big money. So how can investors profit from it?
Faster, cheaper computers equal bigger, better games
As with so many areas in technology, one of the biggest factors powering the video games industry is Moore’s Law. This is Intel engineer Gordon Moore’s observation in 1965 that the number of transistors on an integrated circuit was doubling roughly every two years.
That has continued to hold true. In practical terms it means that computers just keep getting faster at an almost unimaginable rate, as the cost of computing falls. To put this into perspective, a simple smartphone has more computing power than the whole of US space agency Nasa did when it started sending astronauts to the moon.
At the low end, this means you can now play games on your phone that are equivalent to those available on dedicated gaming consoles ten years ago. And at the high end, it means that the latest PC and console games have a level of sophistication that was once unthinkable.
Of course, it also means they cost a lot more to produce. The days of individual programmers or even small teams producing a blockbuster mainstream hit out of their bedrooms are long gone. You still get the odd lone star hitting it big by producing an addictive smartphone application, but the big-name games now command similar budgets and development times to a Hollywood film.
Take Fallout 4 – its developer, Bethesda, had been working on it seriously for around four years before it was finally released. It involved a development team of more than 100 people, followed by a quality assurance team of roughly the same size. There were also many voice actors.
While Bethesda didn’t provide any cost estimates, fantasy game Skyrim, a past hit, cost around $90m to develop and market. Industry insiders think Fallout 4 cost at least that amount. And compared to some games, that’s cheap. Gangster simulation Grand Theft Auto V (released two years ago) cost $250m.
High costs, but big sales
But while it costs a lot of money to produce a blockbuster game, the sums of money that the keenest gamers are willing to part with are pretty impressive too. You can buy the basic version of Fallout 4 from Amazon for £35. But there are special “commemorative” editions too, going for £100.
And companies don’t just make money from the initial purchases. The big fear was that internet piracy would devastate the games industry in the same way that it has hit the music publishing world, by making it easy to download and distribute copies of a game online.
This is certainly a problem, but the internet has also provided extra revenue streams for gaming companies in ways that music publishers haven’t been able to exploit. That’s because companies can charge for extra downloadable content, and versions of games that you can play online with other players are now major money-spinners.
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The net result is that a best-selling game can make an incredible amount of money. For now, the record is held by Grand Theft Auto V, which has achieved over $2bn in sales. But the most lucrative franchise is Activision’s Call of Duty, which began in 2003, and simulates being a soldier in a variety of eras. This series of games has taken $10bn in the last 12 years.
In that context, Activision’s decision to spend $500m developing science fiction game Destiny, which they hope to build another franchise around, makes sense. After its release in September 2014, it quickly racked up sales of $500m.
The gamer demographic is expanding
The rise in the quality of games has also shifted people’s attitudes towards them. It’s not so long ago that being a dedicated adult gamer (as opposed someone who played them occasionally) was seen as slightly eccentric, or a sign of delayed development – overgrown kids playing games in their parents’ garages while dressed in their pyjamas.
However, the idea of older people playing games for hours at a time is now considered perfectly normal. When Grand Theft Auto V was released, employers were warned about “GTA flu”, and thousands of other workers booked time off work just to be able to play the game without any distractions.
Gaming has also spurred several ancillary industries, with some people making a living as professional gamers. In August last year, Amazon paid $970m to buy Twitch, a website built purely on videos of people playing games.
According to market researcher NewZoo, global video games sales were worth $83.6bn and the market is growing at a rate of 8% a year. Not only is there huge untapped potential in developing markets, sales are also growing strongly in countries such as the UK. It’s safe to say that the gaming industry is only going to get even bigger.
How to make money from this
We’ll be doing a more detailed story on the computer games industry as a whole very shortly in MoneyWeek magazine. (If you’re not already a subscriber, you can sign up here).
But if this has piqued your interest, one big player worth looking at in more detail is Activision Blizzard (NADSAQ: ATVI), the fifth-largest games company in the world. As well as Destiny and Call of Duty, it also makes money from the World of Warcraft and Skylanders franchises. It trades on 23 times 2016 earnings, which is hardly a bargain, but sales are growing at around 10% a year, and there is plenty of cash on hand.