The Consequences of Conflicting Priorities

These are real challenges, but they don’t mean esports teams and other related businesses can’t work. The problem is that while all parties share a desire for esports to “work”, publisher priorities often conflict on a fundamental and day-to-day basis.

To return to the NBA, it’s important to consider that NBA games aren’t designed to be the most fun to play. They are designed to be compelling for viewers (hence rule changes for fourth quarter timeouts) and to maximize league revenues (hence the constant addition of new teams, longer seasons, spinoff tournaments, and events). Pickup basketball and H-O-R-S-E, meanwhile, are designed to be fun to play.

Counter-Strike, League of Legends, and Overwatch are not designed to be good viewer experiences. They’re designed to be fun for players — the publisher’s core customers — not a handful of professional ones or dozen league owners. This makes it difficult for any league to acquire fans that aren’t also players, and for many players to fully appreciate (or even follow) professional play.

This is also why video games, unlike professional sports, are constantly changed. The goal is to keep the game fresh for millions of non-professional players. This, of course, often annoys and even harms professional players — all of whom are incredibly sensitive to even the smallest change in the damage done by a gun, the speed of a reload, or the layout of a map (not to mention outright removing established maps, guns or characters outright). Most leagues now try to accommodate this issue by withholding some changes from competitive play or phasing them in on different timeline. However, nothing is going to be maintained or held off indefinitely just for professional play. There are limits to forking a living game.

(To quote one VC, “Esports is as though Spalding owned the NBA, rather than the owners or players’ association. And eventually, Spalding would announce the game has three balls.”)

In other instances, the publishers make decisions that make sense for their businesses but cleanly conflict with the priorities and profitability of the teams. One team owner gave me the following example: “Most publishers would prefer, say a $75MM rights deal from Twitch than a $100MM deal from Mixer [Twitch is roughly 250x bigger in terms of streaming hours]. In fact, they’d probably prefer $50MM total for all three [including YouTube] to share non-exclusive rights as that maximizes total eyeballs”. And while the teams, too, should prefer maximizing reach, few believe that platform choice will grow the number of esports fans. No would-be fan is ignoring professional League of Legends because it’s on Twitch not YouTube. And crucially, this rights decision is at the sole discretion of the publisher, with teams informed after the fact. (A senior executive at a major gaming platform joked to me that teams are just esports sub-departments publishers decided to outsource - and then bill for the privilege of supplying services).

To put this in perspective, return to the NFL or MLB. Imagine that these leagues take a 50% discount on rights fees — their single largest revenue driver — because they prefer that Fox and NBC both air their games. Or that the owners might have no choice in the matter. Notably, half (or even all) of $25–50MM per year to a publisher is negligible. To teams, however, it’s enormous. Especially when this money is first used by the publisher to “recoup”. An incremental $25MM can mean the difference between not a dollar shared and millions.

Another example from a team owner was more cynical: “Publishers aren’t excited about creating, let alone pushing, virtual goods that tie into their little-watched leagues and require paying us a royalty. They’d rather make unbranded items that appeal to all players, not just esports fans, and include no royalty. And if they’re going to pay a royalty, they’d rather it be for, say, Marvel IP, not our team logo.”

The publishers argue that such items also generate limited revenues anyway. And so even if the teams financed the development cost of such merchandise themselves, they’re not worth the promotional inventory. Sure, a digital store can house unlimited items — but there’s still finite promotional capacity. The publisher is probably right here, but this very dynamic speaks to the economic confines of leagues built to appeal only to a subset of gamers and which receive limited investment. At the same time, leagues also drive micro-transactions that aren’t captured as part of “directly attributed revenue”. Many professional players, for example, will popularize a given skin or character and, in so doing, lead players to buy them. However, they receive no bounty or royalty. This doesn’t mean the value here is enormous — it’s probably not. But it does help emphasize the imbalance of power and the fact that, again, esports is marketing.

One of the ways “teams” have sought to produce value is by operating across multiple leagues (i.e. games) under the same brand. The analogy here would be as though the Los Angeles Lakers (NBA) was also the name used for the LA Kings (NHL), LA Galaxy (MLS), LA Dodgers (MLB), and so on. And so, while any individual team might have modest profits, collective income could be substantial. In addition, this would make it easier to justify (i.e. monetize) further investment in a macro-level brand and produce numerous cost efficiencies (e.g. one hoodie rather than five). Many team owners also hoped that by amassing scale beyond any league, they would also amass greater leverage over the publishers. They would, in effect, “own” esports fans while the publishers would own game “fans”.

However, most new major leagues no longer allow for such brand sharing. All new teams must use names specific to every league, even when under the same publisher umbrella (e.g. you can’t use the same name even in Activision Blizzard’s Overwatch League and Call of Duty leagues). This means the parent company must build several brand-new consumer brands concurrently.

The leagues have several fair arguments here. For example, if every team uses the brand of a parent organization, wouldn’t a sale of an individual team mean scrapping the brand? That’s obviously terrible for fans and the league overall. And what if Team A wants to sell its Team A–branded League of Legends team to Team B? That’s even worse. In addition, some leagues have location-specific teams (e.g. London or Philadelphia). As a result, it’s confusing if Team A uses the same brand for teams in different games based in different cities, or for teams that have no location at all. The preference for native brands is reasonable and clear, but it nevertheless presents an enormous financial burden in an already strained space. And most teams believe there are other ways to solve the above issues, with the true motive being a desire to keep “teams” from becoming too strong.

The biggest outlier here is Valve’s approach to professional Counter-Strike. Notably, the title remains one of the most-played esports in the West and is typically its most watched, too — even though it has barely been updated and boasts aged graphics. This may not be a coincidence. Rather than own/operate/invest in a proprietary league like most publishers, Valve chooses to support and encourage a host of third-party tournaments, organizations, and leagues. It also keeps the game stable (rather than make frequent updates) and works well with third-party analytics/data/extensions providers to enhance the experience. At the same time, Valve isn’t really a publisher — it’s a platform. It’s the world’s largest digital seller of third-party games, one of the largest online player networks, and one with recurring hardware ambitions. Founder Gabe Newell, who is also a strong believer in open-source systems, is also clear that Valve only makes games as a means to fund/accelerate technology (hence no Half-Life 3). Platform and IP companies are very different, and thus so too are policies on outside partnerships and networks.

What’s more, even Valve’s partner-centric approach leads to conflicts. While Valve happily allows for professional tournaments to charge distribution partners (e.g. YouTube) or customers for access to their production, Valve requires all gameplay to be freely viewable inside Steam so that other parties can participate and benefit too. This would be as though ESPN could air its official coverage of the NBA finals (inclusive on commentary, bespoke graphics, half-time panels), but audiences could also go to NBA.com and watch the game without any ESPN editorial – and could, in fact, even watch it with another party’s commentary and proprietary analytics. The ESPN edition should be the best, as it would benefit from exclusive access to the players and involvement in the literal production of the event. However, it will nevertheless lose parts of its potential viewers. In addition, third parties would be able to monetize much of ESPN’s own event production investment and video content – with no royalty paid!

Over/Under/Everywhere

Ultimately, the teams are just a small part of the esports story. There are hundreds of start-ups that have collectively raised hundreds of millions of dollars to pursue affiliated experiences such as esports betting, esports fantasy, esports data/analytics, esports training/coaching, esports highlights, and so forth.

These companies (like the teams) are trying to build “platforms” around esports IP, where the customer of the publisher (a professional or non-professional player) is also the start-up’s customer. The challenge here is that esports IP is not (presently) an app store or third-party ecosystem like iOS (certainly there are no comparable long-term commitments around APIs, third-party support, etc.). And at the end of the day it’s very difficult to create enterprise value in an ecosystem where a single party — which is also a highly successful, scaled and for-profit company — controls all the value levers and sees your business (esports) as a marketing event rather than a profit generator.

Does Overwatch League, for example, care about third-party stats/analytics companies? Maybe. Does it care if they make money? No. But if one day the league decides to pull its APIs, change its Terms of Service, or sees enough value to build its own stats/analytics services, these companies are dead.

And that’s what we’ve seen. For example, Pursuit and Visor each sought to build real-time and post-game analytics tools for Overwatch players back in 2017 and 2018, raising at least $10MM. Eventually, Activision Blizzard pulled the APIs and banned the companies, while also threatening to suspend players that continued to use them. Esports One, meanwhile, tried to build such a service for League of Legends. It still exists, but it relaunched as a fantasy esports company.

(The sustainable ecosystem play here is probably selling technologies to publishers, not players — especially when these technologies don’t also try to own the customer. Unity, Unreal and Genvid (a portfolio company), for example, are used to power major esports/gaming titles but focus on enabling the publisher to generate value both in the sports and beyond it.)

And if publishers’ mentalities shift toward considering esports as a revenue generator, they are likely to further expand their control of esports activities, not relinquish them. They may still allow for third-party services — or even enable more of them — but it’s likely that in that case they’ll begin charging large fees for their API feeds. Twitch only survived because it scaled early and convinced Riot Games not to shut down League of Legends broadcasts. But most other companies around the ecosystem can’t generate that kind of enterprise value — and the publishers have learned their lesson.

Consider, for example, that Riot has announced that to launch and accelerate Valorant, it will rely on, support, and officially endorse third parties ("Our primary focus early on will be forming partnerships with players, content creators, tournament organizers and developers — unlocking them to help us to build the Valorant ecosystem.") This is a smart strategy and similar to how every esports began, including League of Legends and Overwatch. At the same time, Riot admits it is looking into setting up its own league — just as it did with League of Legends.

To this end, we have already seen this story play out. Not long after Riot began to fully professionalize its LCS league and sell permanent franchise rights, the company announced its teams would no longer participate in (let alone incorporate) tournaments and leagues operated by ESL. The rationale here was fair: schedules conflicted, players needed time to rest, and Riot was building up its own tournaments. Riot, as the IP owner, had the right for such a policy shift. However, it left ESL, which had operated the IEM since 2011, helped popularize League of Legends outside of China, and become the largest independent esports tournament organizer and production company globally, with no future in the sport. It stopped producing League of Legends events the next year.

So How Do You Produce Value in Esports?

To return to the teams, it’s clear that several multi-sport brands have produced real value. However, there are some interesting thought experiments here. For example, we’ve never had a major sport emerge in the digital era — a time in which a fan can just as easily watch a team based in their city as they can one 12,451 miles away. And to this end, many of the world’s biggest traditional teams — Real Madrid, LA Lakers, New Zealand Allblacks — have all grown their fandoms as they’ve transcended their local, national, and regional limitations. This is the world in which today’s esports teams are launching, and it’s not clear audiences will want to support a local team over the bigger, better, cooler one that’s based elsewhere. If you’re a fan investing now, why support the new St. Louis team rather than the best one based wherever else (be it NYC or Paris or Sierra Leone)? And in several leagues, no team has a defined city at all. Why/how will every team get a fan?

These dynamics might explain why several brands, such as Cloud9 and Team Liquid, have thrived while most languish. It’s not clear that there’s a solution here. And ultimately, every league depends on many teams succeeding, not just one or two. And all need to succeed over the long run.

In addition, several of the most valuable “teams”, such as 100 Thieves or Faze Clan, aren’t really esports companies. Their teams are important, but they’re only a part of their parents’ organizations — and usually on the smaller side. In truth, most of the revenue and profit comes from media revenues (i.e. personality-based Twitch livestreaming and YouTube videos) and lifestyle merchandise. In other words, if esports is game marketing for publishers, esports is marketing for 100 Thieves. But again, there’s probably not room for too many brands.

Also consider importance of generation and time. Even the NBA, the youngest and most future-forward league, leans heavily on nostalgia. The new generation of American soccer teams borrow heavily from early 20th century football, from the club-based naming conventions (e.g. Toronto FC or the absurdly named Real Salt Lake), to its culture (scarves and TIFOs). Sports and teams are about continuity — and that requires stability. Video games are in a process of constant change. And overall, the NBA cares that basketball is a sport of the future. Activision Blizzard cares that irrespective of which esports are played in the future, they own as many of them as possible.

There are still several bull cases. The secular tailwinds behind gaming will continue, raising the overall value of sports and esports alike. The leagues will also continue to evolve and mature. Ultimately, league and team failures benefit no one, and all parties hope for greater revenues, greater audiences, greater distribution, and so on. The major owners have been largely unsuccessful in lobbying leagues for change so far, but prolonged duress will inevitably lead to change. In addition, Collective Bargaining Agreements, though resisted to date, do feel inevitable over a long enough time horizon. To this end, leagues take time to get it right. The NBA is great now, but it took decades of learning, policy changes, and mistakes.

And as video game makers continue their transformation into proper media companies (leagues are live events businesses, most publishers are launching Hollywood studios, etc.), they may also come to see esports as a profit area, rather than just a marketing exposure. To this end, games are increasingly being designed to be fun to play, fun to watch, and fun for professionals. Overwatch was one attempt at this triple goal — though it hasn’t quite worked — but all of the publishers are trying (See Riot and Valorant), the strategy is still new, and there’s lots of iteration/learning left. One day, there might be a game with the popularity of Fortnite, the longevity of League of Legends, and incentives closer to the NBA. In addition, more opportunities will emerge for teams to leverage their brands and followings into new revenue streams (recently, 100 Thieves released its esports apparel as virtual items in Animal Crossing, an incredibly un-esports game).

None of this means that esports teams will become enormously profitable, let alone many of them. When you serve at the leisure of the king, you can only get so rich.

Finally, it’s important to temper expectations around COVID-related lift to esports, especially whether the rising tide will be evenly distributed. NASCAR iRacing, for example, is virtually indistinguishable from the real thing, easy to understand, and doesn’t require a NASCAR fan to “learn” how the sport works. NBA 2K isn’t as real looking, but can be seamlessly followed by a fan of the IRL sport and still allows these fans to see and root for their heroes. This is in strong contrast to the major esports. Counter-Strike and Call of Duty are relatively simple, but they still require education and are clearly synthetic. League of Legends is enormously difficult to follow, fantastical, and obviously not real.

In addition, we have to return to the idea of “design”. Physical sports like NASCAR and the NBA were made to be fun to watch. The fact they’re now virtually rendered doesn’t change this construction. But to this end, their success as digital simulation doesn’t mean that the video games designed around play, not viewership, will suddenly work as viewed sport.

Matthew Ball (@ballmatthew)