What’s happening in esports: Drivers, trends, and opportunities
In this series, we dive into technologies and industries we’re excited about, going deep into their change drivers and stakeholders while exploring investment trends and opportunities through an early-stage lens.
By: Sterling Campbell, Investment Scout
In a sentence: Gaming refers to video games that are played on PC, console, or mobile, while esports refers to the professional leagues and tournaments organized around popular video game titles, as well as the broader video game streaming ecosystem.
Size and scope: The gaming market is estimated to be around $159.3 billion with 2.7 billion global gamers in 2020, with expectations of a $200 billion market by 2023 (8.3% CAGR). In esports, the 495 million fan base is expected to grow to 644 million by 2023 (9.17% CAGR), and revenues are expected to grow to around $3 billion by 2021 after surpassing $1 billion this past year (36% CAGR).
Stakeholders: The gaming value chain is a complex, multi-channel system in which money flows in several different directions. Put simply, fans pay for games from publishers, publishers create the platforms from which streamers are born, and professional teams and individuals compete in tournaments funded by brand sponsorships and, typically, produced by the publishers themselves.
Change drivers: Esports is experiencing tremendous growth, fueled largely by the advent of social gaming, changes to the revenue model, and, most recently, COVID-19.
COVID-19: While some long-awaited titles such as Last of Us 2 and Ghost Of Tsushima have seen their releases delayed due to the virus temporarily disrupting production, the pandemic has, by and large, been a massive tailwind for the industry. U.S. consumers spent a record $10.9 billion on games during the first quarter of 2020, and Twitch experienced 33% year-over-year growth and topped 3 billion hours watched in a single quarter.
Gaming has grown so quickly during this period because of changes to entertainment options and consumer behavior. For one, esports have offered a form of escape for individuals sheltered-in-place in small spaces and served as a way to connect with friends. The elimination of sports and other live entertainment has forced traditional media outlets to turn to esports in order to distribute content. Games have even provided an alternative to the disappearance of live events, as Travis Scott performed via Fortnite collaboration to 12 million viewers and Minecraft hosted virtual graduations for seniors.
COVID-19 is simply accelerating many of the trends that have been powering the game industry’s growth over the past several years, enabling social connectivity and bringing esports to more casual fans.
Social Gaming: The stay-at-home orders across the world have pushed individuals to connect with one another in different ways, and many have found a social outlet in gaming. Nearly 40% of gamers make 6+ friends a year in online gaming, and the introduction of cross-platform and cloud-based gaming has enabled users to connect more freely without hardware restrictions. Game publishers are moving away from single player-based storylines and towards multiplayer worlds that allow gamers to connect more than they compete.
Revenue Model Change: Fortnite, a free-to-play, cross-platform game, took the world by storm in 2018, earning $2.4 billion in revenue and crushing Red Dead Redemption’s $1.3 billion in total sales (at a one-time $60 price), signaling a shift away from the “hit model” and towards a freemium, recurring revenue model. Fortnite players spent an average of $84.67 on the free game — well above the traditional $60 — and 36.78% reported spending money on in-game purchases for the first time.
Mobile gaming, which comprises 50% of the global game market, has embodied this shift as in-app purchases and loot boxes have become tremendous value drivers for the industry. Mobile gamers currently spend only $5 less on average for in-game purchases than PC and console gamers do on one-time purchases.
This shift has allowed game publishers to boost lifetime value (LTV), maximize the shelf-life of their content, and increase user engagement. The focus on longevity ($10/month battle passes for Fortnite are easier to create content for than designing a new game) has directly contributed to the rise of related esports categories and created an abundance of investible opportunities in the market.
Investment trends: Gaming and esports have seen a massive boost in investment over the past year, with over $10 billion in venture capital investments equalling that of the past five years combined. Even during COVID-19, investors poured $700 million into gaming startups in Q1 of 2020. Investors have increasingly poured capital into game studios as revenue models have changed and they’ve been able to de-risk their investments in that space. That said, they’ve largely stuck to investing in esports infrastructure and game development technology. Lerer Hippeau, as an example, has previously invested here with Parsec. This trend has manifested itself in all stages, with Vindex raising $60 million for their Series A and Unity raising $1.3 billion to build their game development engine.
What to look for: The most lucrative opportunities in esports lie in providing users with ways to develop real connections with each other and the ability to deliver premium streaming experiences.
Social connectivity: Companies that make it easier for gamers to connect with one another have the potential to generate outsized returns. Existing matchmaking solutions and social tools embedded in most platforms today are inadequate, and much of Fortnite and Minecraft’s success can be attributed to their ability to become social metaverses that could act as a concert venue or graduation ceremony, bringing people together in unique ways that would otherwise not be possible.
Premium experience: The average esports broadcast today lacks the dynamic experience that defines traditional sports. Startups that enable large-scale broadcasting and tournament organization or increase interactivity between fans and the games they are watching will perform very well. The esports fan is under-monetized, with an average spend of ~$4 compared to $40-$50 in other major sports. This figure stands in stark contrast to the ~$60 average monthly spend on gaming video content on Twitch ($29.73 for donations and $28.64 for subscriptions). Just 0.1% of 500 million esports viewers paying $4.99 per month would create a $30 million annual recurring revenue (ARR) company.
How to evaluate opportunities: It’s important for investors evaluating opportunities in the gaming and esports industries to consider platform risk, defensibility, and key stakeholders.
Platform Risk: Games are the foundation of this industry, and game publishers are very protective of their intellectual property given its massive development costs. Companies that attach themselves to a specific game early in their development process run the risk of being shut out by publishers or becoming niche products unable to break into other games. Some of today’s most successful gaming companies such as Twitch or Discord can attribute much of their success to being game-agnostic.
Defensibility: Gaming is becoming an increasingly crowded space as startups look to add value to the powerful gaming ecosystem and third parties become more involved in the game development process. Major tech companies like Microsoft, Amazon, and Google have poured money into acquiring and developing tools to enhance the game and streaming experience, and companies that seek to capitalize on opportunities in the space will need to clearly differentiate themselves from their competitors.
Key stakeholders: The gaming ecosystem is extremely tight-knit, and companies need to have a strong understanding of and connection to publishers, distributors, and organizers in order to maximize opportunities in the space. Partnerships drive value in this industry, and it is important for investors to understand how these relationships are structured in order to de-risk their investments.
Seed considerations: Early indicators of well-positioned esports startups at the seed stage include ambitious founders with prior experience in content creation and distribution, as well as connectivity to key partners in the ecosystem. The ability to leverage relationships and capitalize on the under-monetization of the fan is a valuable attribute that is critical to a company’s early success. Moreover, gaming sits on the forefront of technological innovation, if founders are not driving this innovation, they’ll need to quickly adapt to it.
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