Thursday, September 8, 2016

The Problem With The Game Trade (Tradecraft)

Retailers buy product from a handful of game distributors. Game distributors sell to retailers based on a discount model. This model starts low, as low as 45%, and moves upwards based on volume, tapping out at around 50%. There are some secret discount tiers over 50%, but nobody talks about that.

Each distributor calculates your discount separately, so you may have a 50% discount with your primary but only a 45% with your secondary. Retailers try to play a balancing game, since sometimes you need core product from your secondary and you don't want that garbage discount.

As you move more volume, your discount tier rises, reducing your cost of goods. This is great! We're in an industry with a net margin of 5-10%, so a percent off your discount could be as much as a 20% increase in your take home net. Few retailers actually understand this math, they just know it's a good thing. This also assumes you have profits, as you may seek out a better margin just to survive! The difference between negative one and zero is the biggest bridge a retailer will ever cross.

Most stores gradually grow into their discount, usually with sticking with a primary distributor long enough to hit the top tier. Some get close. It may take years. It may never happen at all. I recall being stuck at 49% for a number of years. There's an obvious way you can boost your discount and thus your net margin: buy more!

If you buy more, you'll always have stock on hand. You will always make the sale. Of course, you'll always have overstock on hand too. However, the Internet is there to help. Some retailers over buy, get the security of never losing that sale, and then conveniently dump the rest at cost online. The logic is they're peeing in someone else's pool.

This dumping activity, as we now understand, is bad. It devalues the market and makes it harder for brick and mortar retailers to sell at a sustainable price, including the retailer doing the dumping! It's thought most discount games out there now are from brick and mortar dumpers. The argument then is that not all discounting is bad, that some discounting is normal and sustainable as a model, but that the vast amount of brick and mortar dumping is causing the alkaline level in the pool to rise to dangerous levels.

As games become devalued, game stores stop selling unprotected games, those created by publishers that do nothing to protect their brand value. As publishers protect their brands, dumpers move to less protected brands, accelerating the process. Now this is all new for publishers. They haven't had to deal with this in the past. The difference here is the game trade is booming. Despite the doom and gloom from the Internet crowd, brick and mortar stores are killing it. When boom times come, an interesting thing happens. All the perversions in the system become glaringly manifest.

The response from publishers is to absolutely protect their brand value, as happens all the time in other industries. This game trade brand value protection is not new, unique or otherwise special. The publisher solution is various price protection schemes. The cost of these schemes are then passed on to the retailer, who is expected to not only silently absorb the cost, an issue that nobody even mentions in discussions, but retailers are asked to be thankful for these actions. Wow.

Of course, the real problem here are the perverse incentives. The problem is the distribution tier and their discount model, exacerbated by jointly embracing MSRP. It's hard for me to point the finger at the middle man and claim they're the root of all evil, since I am a middle man and there are people pointing their finger at me claiming I'm the root. Nobody wants to talk about this, since retailers have a tendency to grab torches and pitch forks and ruin conversations. They grab these implements of destruction out of frustration, as they have no power in this model.

This whole situation reminds me of the Ptolemaic model of the solar system in which the Sun revolves around the Earth. Through the most twisted yet accurate mathematics imaginable, theoretical spheres of epicycles and deferents allow the planets to revolve around the Earth. It's the art of coming up with elaborate schemes to support your hypothesis, when the simpler answer is unpalatable. The mass the game trade revolves around is publishers, not distributors.

I'm not suggesting a solution. I'm not grabbing a torch or pitchfork. I am saying admitting you have a problem is the first step towards recovery.

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