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The Perpetual Value Machine

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Tuesday, Jan 5, 2010
So...how about that STEAM sale?

There’s a funny quirk to digital distribution that people are starting to pick up on: you make a lot of money by lowering the price of a game for a short period of time. The idea of a temporary sale is called price discrimination, where you take a calculated loss in order to attract a customer who would otherwise never buy a product. An essay on Black Friday Sales by Arnold Kling explains, “If you need something now, you have to buy it whether or not it is ‘on sale.’ But if the purchase is discretionary, you may only buy it ‘on sale.’ The store keeps its prices high ordinarily, in order to pick up profits from the price-insensitive shoppers. The store puts items ‘on sale’ on rare occasions, hoping to pick up profits from price-sensitive shoppers.” Temporarily dropping the price means that you can leverage a lot of product at people who would normally denounce it as too expensive, and you can pull those prices back up to make sure that you don’t lose money to people who would’ve paid full price anyways.


The weird thing about this principle when applied to digital distribution is that a sale will generate enough buzz about a game to make people purchase it even after the sale is over. You effectively create new customers by dropping the price temporarily. Consider the World of Goo experiment where the company announced a “Pay as Much as you Want” sale. A Rock, Paper, Shotgun article by John Walker on the phenomenon noted several interesting behaviors. Minimal cost was $ .01 for the game. You could pay them however much you wanted on top of that. More than twice as many people chose to pay between one and two dollars than those that chose to pay between one cent and one dollar. PR from the sale caused a boost in sales at both STEAM (of 40%) and on WiiWare (of 9%). Both services charged the usual $19.99 for the game and neither offered a physical copy. News websites that noticed the sale reported it as a bargain along with the usual gossip. Profits after one week for an item that had been on the market for a year came in at about $100,000. That’s not even accounting for the numerous benefits of distributing that much product. If World of Goo 2 or a different 2-D Boy project was going to be announced, they would’ve increased potential consumers for that game through simple brand awareness.


A much larger example is Valve’s online service STEAM, which is a digital store, update service, and game client all in one. All STEAM games automatically patch bugs. Once you buy the game, you can download it onto any machine you like and access is controlled through your STEAM account. The process of perpetual value is something that they’ve demonstrated several times over now. A Gamasutra interview with the service’s director Jason Holtman explains, “Traditional retail wisdom says that lower price points are associated with lower perception of value, and price adjustments are only downward over the long term…But in a connected market, you can shift prices up and down, and people don’t care. You can change prices instantaneously. Customers are incredibly sensitive to pricing. You can adjust the price by five dollars, or a dollar, and you can see the demand curve shift.” The interview is about a STEAM sale for Team Fortress 2 which dropped a game normally priced at $19.99 to $ 2.50. Holtman reports that the increase in sales lasted for not only the sale but well into the following weeks. Gamers would buy the product themselves or purchase gift copies to give to their friends, which STEAM allows thanks to its social networking service. He notes that retail sales were generally unaffected. Holtman concludes, “That phenomenon demonstrates a new, somewhat-paradoxical, property of product value in a fully-connected service economy: devoid of the scarcity of goods, a lower-priced product actually increases the overall product’s value, because it increases the size of the community that surrounds that product.”


Making these kinds of sales possible is not just an exercise in putting together an online store and creating fluctuating prices. No one seems to be totally certain how much of the digital distribution market STEAM controls but estimates run from 70% to 40%. Whatever the figure, another Gamasutra article highlights the fact that the second leading competitor to Steam, Impulse, controls about 10% of the market. The competitive spirit came to a head between these companies when Activision announced that one of their most popular FPS titles, Modern Warfare 2, would be wrapped with STEAM. Other distribution channels refused to carry the game. A column by Derek Smart explains their decision better than I could, “Steam wrapped games (with or without third party DRM) can be sold at any ESD (Electronic Software Distribution) site and even on retail discs. What makes this possible is that Valve generates the serial numbers for the product, then gives it to the developer/publisher who then hands it over to the ESD site operator who adds it to their server backend so that each purchase is given a unique key. This is how come you see some Steam wrapped games (e.g. Dawn Of War 2, Fear 2 etc) on Direct2Drive. When the game is installed, the Steam client downloads it and asks for the key. In this case, the authentication is done by Steam servers.” In other words, every single person who buys Modern Warfare 2 for PC has to download STEAM to even turn it on. Faced with the prospect of losing even more customers to the competition, many of these services simply refused to sell the game. Smart concludes his column by pointing out that the decision probably did more damage than good because the game is still just a mouse click away.


What’s wild about these services is the degree to which a company can take an old intellectual property, decrease the cost, and then ride the resulting buzz into a new wave of sales when the game resumes the normal price. It works like a perpetual motion machine. Price decreases all the way to the bottom of the wheel, then gets pulled back up as more consumers take interest in the product. A company like Valve is the most likely to reap the benefits of this because they constantly update their games and can justify charging about the same price for very long periods of time. The quality stays the same, only the numbers change.

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