This is an interesting article but be aware that it was written in 2006 - since then their has been a boom independent games development, so there is an alternative model to making games.

The Economics of Game Publishing

A look at the costs that go into making videogames.

Once upon a time, not really all that long ago, it was fairly common for a game to be concepted, designed and developed by an individual or a small group of individuals with little to no budget to speak of. However, this has all changed thanks to the ever-increasing power of the newer generation of consoles that have more computing power, memory and disc space for developers to use, as well as the greater need to spend more money on marketing and getting licenses for these games to help ensure the titles sell to make it all worth a publisher's effort. Games cost a lot of money to make and, now more than ever, they need to sell as many copies as possible to help recoup the costs of publishing it. In this article, we'll give you an inside look at where all the money goes when trying to get a game from a concept to one that you're playing at home.

Development

The most important component, however not necessarily the most costly, of publishing a game is the handling of its development. According to a non-scientific poll of publishers, the costs of developing games for the next-generation of consoles such as Microsoft's Xbox 360 and Sony's PlayStation 3 is estimated to be roughly $10 million as compared to $3-$5 million for the Xbox, PlayStation 2 and GameCube.

A large portion of this cost goes to paying the talent that's making the games - the programmers, artists, musicians, designers, producers, and testers. And with the size of teams required to make games for the newer consoles doubling when compared to the previous generation, particularly with the number of modelers, animators, and other artists now needed, you can see why the cost of development keeps making significant jumps for each subsequent new generation of consoles.

In cases where the game is being developed by an outside company for a publisher, the publisher typically advances the development costs to the developer in the form of milestone payments that are paid at various predetermined stages of the game's development. Additionally, the publisher will also have to pay the developer royalties for the game based on a percentage of the net sales revenue of the game after deductions, such as taxes, shipping, insurance, and returns. This royalty percentage varies greatly within the industry and deals will often include step ups in rates based on hitting certain sales goals or milestones. Based on our independent research, the typical royalty is anywhere from 10% to 20%.

Because of this and the need to try and cut costs wherever possible, larger publishers have started to buy up a lot of the smaller development studios so that the games can essentially be made in-house and the paying of royalties is no longer needed. Publishing label deals are also made where the publisher and developer actually split some of the costs of development and marketing of the game.

Licensing

The next area where money is spent in publishing a game is with licensing - both licensing the game to be released on a console and the licensing of intellectual properties for use in the game.

The first, console licensing, is a step that can't be avoided when publishing games on videogame consoles such as the Xbox 360, PS3, Revolution, and so on. In order to release a game on any of these videogame consoles, the publisher must pay a royalty to the manufacture, whether Microsoft, Sony, or Nintendo, for distributing a game on their system.

And as part of the deal, the game must also meet with all of the strict quality standards and guidelines as set by the manufacturer for it to be approved and released. The exact licensing fee varies based on the manufacturer, as well as any deals they may give a publisher, but it can generally be anywhere from $3 to $10 per unit.

Games published by any of the big three console makes obviously don't accrue this licensing fee, so that's why they're often able to release their games at a slightly lower cost than 3rd party publishers.

The other form of licensing has to do with the purchasing of or paying for the right to use intellectual properties such as stories, characters, music, personalities, or products in the game. This includes things such as paying the NBA for the right to use its official teams and logs in games like 2K Sports' NBA 2K6 and EA Sports' NBA Live 2006, as well as Activision paying Tony Hawk for the exclusive right to use his name and likeness in the Tony Hawk games and paying royalties to any of the music artists for using their songs in the game.

With companies needing games to sell more copies than ever before, thanks to the increased costs of developing them and the fact that the base price for games still remains relatively unchanged from 5 or even 10 years ago, many see the instant name recognition that they get by licensing a well-know intellectual property such as James Bond, The Lord of the Rings, The Matrix, or X-Men, as a safe way to help guarantee some sales.

All that said, with the owners of these properties knowing their importance, it's becoming even more expensive to obtain their exclusive rights so there's still plenty of reasons for companies to try and create their own characters and properties and hope to they become household names.

Marketing

Often the most expensive aspect of game publishing comes in the form of marketing the game. This process happens all throughout the development process and often lasts after the game is shipped. It includes all the buying of advertising in the form of banner ads and promotions online, television commercials, local radio commercials, magazine print ads and pullouts, and in-store promotions, displays and advertisements.

The costs of doing all this is extremely high and it's quite common for a game's marketing budget to equal or even double the actual cost of making the game. Obviously, the most costly of these is the television advertisements, but it's also regarded as the most effective at getting your game in the minds of the mass market public.

Distribution

The final cost of publishing a game that we'll delve into is the distribution of the game, and that's the process of getting the game sold to wholesalers and then to retailers where you'll then have a chance to buy it. Wholesalers typically pay around $30 per game and with the costs of getting the goods to the wholesalers, any co-op advertising or marketing, and return of good contingencies being roughly $14 per game, the publisher is going to typically get $16 for every unit sold. The key part of this arrangement, however, is for the publisher to have really good relationships with the wholesalers and retailers because space is limited and unless a company's relationship is good, the wholesaler or retailers won't want to buy-in as many units, which means the sell-through can't be as good. A lot of time, money and effort is put into making sure publishers are in good with these distributors, however the bottom line is often that if your game sells they'll want to buy it. Or, if at least one of your games sells really well, then they'll want to buy or be forced to buy others.