Tuesday, November 14, 2017

Is the Video Game Business Stretched Too Far?

The most unpopular post in the history of Reddit was the one from EA explaining the pricing for Star Wars Battlefront II. It’s a game that isn’t really there when you first install it, consumers complain. You have to go through an initial phase, think of it as a quest, to add the two main characters before the real game can begin. It’s a quest that early players estimated yesterday would take a highly skilled player about 80 hours. That’s 80 hours of grueling and ultimately meaningless play just to get the game started. Would you wait in line 80 hours to see a Star Wars movie? Probably only a hundred Star Wars fanatics would be that dedicated. The rest of us would give up long before the 80 hours were up.

In response to complaints, EA now says it is reducing the level of effort required to start the game. If we can take them at their word, that still means you start the game with 20 hours of meaningless initial play before the real game starts. Even a 20-hour quest to start a game is sure to feel like a punishment or purgatory to most buyers. If you had to wait in line for 20 hours to see a Star Wars movie, would you say it was “just” 20 hours? EA’s pricing adjustment is probably enough to sidestep the consumer fraud litigation that could have followed, but it may not be nearly enough to save the product.

As an alternative to investing 20 hours to create the two essential characters to get the game started, you can buy the two characters, but that would mean paying twice for the same product. That doesn’t feel good either. When you buy a game, you want to play the game. You don’t want someone telling you, “Well, no, you have to pay extra if you want to actually play.”

How did the video game world come to this? The fundamental problem is that games cost too much to make, while at the same time, high prices have driven most of the potential customers away. Game designers face essentially the same conundrum that TV producers have to deal with. Do you make a large investment and deliver a highly impressive product that may draw in the general public, or do you play small, keep expenses down, and content yourself with selling the product to followers of the genre you are working in? Increasingly TV producers and game developers are saying it is hard to make a profit with either approach. The economically correct answer when an entire industry is stretched this way is to stop making so many video games and TV shows, but with the economy being the way it is, the needed adjustment tends not to happen until whole companies actually shut down. In the interim, the tendency is for managers to take greater and greater risks as they try to make ends meet.

The corporate way is to make every product show a profit and I expect that Star Wars Battlefront II will do so too, but at a steep cost to EA’s credibility. Enough players will pay the high purchase price that the sales pay for the cost to produce the game. Most buyers will be disappointed and some of them will then be more hesitant to buy future game releases from EA. Some, inevitably, will be frustrated enough that they give up video games entirely. The loss of credibility and audience makes EA’s challenge that much harder the next time around.

What one would hope is that a company’s managers would say, “We have to stop making this kind of product. The costs are too high, the rewards, too low.” Today, as it scrambles to get its new game out the door, EA is not giving the impression of a well-managed company, so for all we know, it may already be too late. For consumers, though, it’s not too late to avoid the problems of Star Wars Battlefront II. The game in its packaged form might look like a nice holiday gift item, but if you’re aware of the unique hassle and frustration such a gift would mean to the recipient, you can choose to pass over this product and give something else instead.

Monday, November 13, 2017

Counting the Toys at Toys ‘R’ Us

Two months into the Toys ‘R’ Us bankruptcy, it is too soon to say whether the toy retail chain will have a strong enough Christmas season to emerge from bankruptcy relatively intact. Large numbers of toys still could be sold over the next five weeks. Early indications, though, are that toy sales are trending down this year.

There are multiple reasons for a decline in toy revenue, and it is hard to say what their relative importance is. In October manufacturers saw revenue slow from inventory consolidation that resulted from the Toys ‘R’ Us bankruptcy, and that trend could continue through the holiday season as all retailers prepare for a flood of cheap toys in a possible Toys ‘R’ Us liquidation in January or February. The depressing atmosphere of the Toys ‘R’ Us stores is part of the problem, with children and parents alike dreading the thought of being dragged around that dingy old store again. Children are also spending less time with toys as they are drawn more to games, puzzles, books, and touch-screen devices. Toy stores sell games and puzzles but at generally lower prices than toys. Selection may also be an issue with jigsaw puzzles. I’ve been told that toy stores don’t have the best puzzles.

The outlook for toys is so challenging that Hasbro is talking to Mattel again about a possible merger. The timing might not be right for the two companies most closely identified with the bankrupt Toys ‘R’ Us. It is estimated that between half and two thirds of toys sold at Toys ‘R’ Us are from these two manufacturers. I don’t know what fraction of U.S. revenue for Hasbro or Mattel goes through Toys ‘R’ Us but it could not be far below half. A merger would accomplish nothing if the merged company faces the risk of its own bankruptcy in the event of a Toys ‘R’ Us liquidation. Nevertheless the mere fact of merger talks may be an indication of how overextended the toy industry feels after seeing the early returns from this year’s Christmas shopping season.

There is another, more bizarre indication of stress around the toy sector. A new EA video game has a pricing scheme so bizarre that “a developer is apparently getting death threats.” The video game sector has been under pressure almost since the release of the iPhone ten years ago, and that kind of financial stress can lead to pricing schemes that make customers feel insulted and in the worst case, seen now with Star Wars Battlefront II, can lead to open rebellion among previously loyal customers. The stress in video games seems similar to the stress that toys are now facing, even though video games don’t provide much revenue for most toy stores.

When considering the outlook for Toys ‘R’ Us, it is important to remember that its most prominent competitors have already closed. The reduced competition has allowed Toys ‘R’ Us to keep going but has not put it on a path to profitability. So few toy stores remain that Toys ‘R’ Us cannot plan on any future boost from competitors closing.

Toys ‘R’ Us went into bankruptcy without a plan, and it apparently will not be drawing up a plan until Christmas sales are counted. As in the last four years, managers appear to be pinning their hopes on an above-average Christmas season. Everything seems to point to a down year for toys, though. The bigger the decline, the more stores Toys ‘R’ Us will have to close.

Monday, October 30, 2017

The Whitefish Energy Saga: Corruption While People Suffer

Trump emphasized that the White House saw the hurricane aftermath in Puerto Rico as a profit opportunity first, and the Whitefish Energy contract puts those comments in a new light. A virtually nonexistent electrical contractor is being paid 7 times the market rate for electrical technicians to repair broken electric lines in Puerto Rico. Had the contract run its course, the owners would have pocketed around a quarter of a billion dollars without doing any work themselves. Whitefish Energy does not have any employees — journalists have been able to identify only two people who work for the company — so it must simply have hired other companies who do employ electric workers to do the actual work. I assume the dozens of workers who ultimately arrived in San Juan did real work, though I must add that so far there is no concrete evidence of this — no photographs of workers working, no building with its electric supply restored. At the same time, there is little room to imagine that the technicians Whitefish Energy hastily rounded up on the job boards could have been as skilled and qualified as ones who had been through a regular hiring process. Essentially, the Whitefish Energy contract was little more than a vehicle to funnel unearned money to this mysterious shell of a company.

The contract did not last long after journalists found out about the terms. The largest daily paper in San Juan, though it didn’t break the story, ran an infographic showing how disproportionate the pay arrangements were. That image was seen everywhere last week, it seemed. The mayor of San Juan asked for the contract to be voided, which resulted in Whitefish Energy threatening the mayor on Twitter. The company apologized quickly, but it was too late. The Inspector General’s office looked at the case for a day and decided it wouldn’t have anything to do with it. After two more hops, the governor recommended canceling the contract. By that point, no one would admit to having anything to do with approving the contract in the first place, and it was canceled the next day. That happened over the weekend.

Except — work already underway is being allowed to continue. This makes a kind of sense, but it also means that the work will run long enough that Whitefish Energy, whoever they really are, will get to keep a lot of money, surely in the neighborhood of $10 million. That is still a huge government payout in what looks like a case of government corruption from beginning to end. It is more than enough money to allow a small group of people to retire to a tropical island, as we have seen in the final scene in more than one or two Hollywood heist flicks. This is a money bag on a similar scale to what we see in the movies. And we don’t even know at this point who Whitefish Energy really is.

FEMA seemed to own the contract originally, but disowned it after the terms became public. Over the weekend they were complaining that other parties hadn’t properly vetted the contract, though it is far from clear that the electric company owned by the bankrupt territory had the authority to question a financial arrangement set up by its federal overseers. The indirectness of rule by an oversight committee did not just mean it took five days to cancel the contract. This kind of arrangement, by allowing everyone involved to disclaim responsibility, tends to allow corruption to flourish. This is especially likely when the direction from the White House is to treat Puerto Rico as a profit opportunity rather than a civic problem to be solved. The whole situation looks like a White House-directed plot to siphon off government funds for the personal gain of someone connected to the Trump administration. The $10 million they got away with probably seems small on the scale of activities in Washington, but it will surely rankle in Puerto Rico, where most of the island is still without power and citizens now know the restoration of the electric grid was delayed by more than a week just so someone on the mainland could get filthy rich.

Sunday, October 22, 2017

Getting the Story Straight in Puerto Rico

It took an agonizing month to get here, but the world has mostly gotten its story straight on the disaster in Puerto Rico. The White House went from denying that Hurricane Maria had ever happened to mentioning the storm by name and acknowledging the human impact of destroyed power plants. Major news outlets are using terms like “post-apocalyptic” and are showing photos of empty supermarket shelves. The state government of Puerto Rico is doing better at capturing daily information on the disaster recovery and their information is slowly catching up to the magnitude of the disaster.

Looking back, the strangest thing about the Puerto Rico disaster response was the initial six-day delay in which it seemed hardly anything happened. It seemed as though federal agencies, charities, and news organizations crossed their fingers and hoped for good news in spite of the weather reports that indicated a storm likely to damage most of the buildings on the island. These were days wasted when it would have made more sense to start helping local authorities in search and rescue in any way possible.

There was surely an element of procrastination in the White House’s response, as if they hoped the story would just blow over if they did nothing at all. After ten days or so, the initial reaction from the White House felt more like a coverup than a response. Perhaps the White House did not want to highlight the early days in which it did nothing at all while the President went out to play golf. During the coverup period there were social media reports of emergency supplies in Puerto Rico being improperly diverted. This was part of the coverup story. None of the people making these reports had actually seen any emergency supplies. There were only rumors of supplies that had supposedly come and gone in the dead of night, an exceedingly unlikely scenario in a place where all the lights, including the street lights, had gone dark. The more plausible explanation for these reports is that these supplies had been promised but had not yet reached Puerto Rico. It was impossible for the supplies to be diverted because there was nothing there.

The White House has made a series of statements that indicate that it sees the crisis in Puerto Rico primarily as a profit opportunity for Wall Street. Protecting hedge funds and bond investors from losses is a higher priority than preventing deaths from starvation and waterborne pathogens, according to the way the White House describes the situation. This point of view will for years to come serve as the picture of colonialism as advocates for democracy seek to change Puerto Rico’s status.

Workers are in the very early stages of getting Puerto Rico running again, and the most optimistic plans call for electric power for close to 90 percent of customers by the end of the year. It will take longer than that for workplaces to be operating again, and in the meantime, hundreds of thousands of workers will leave Puerto Rico for jobs in the eastern United States and California. One of the big unknowns in Puerto Rico is just how many residents have already moved away. The influx of voters could affect the electoral balance in some states, particularly Florida, Ohio, Virginia, and New York. When the numbers are finally added up I expect Hurricane Maria will stand as both the most disruptive disaster and the most badly muffed disaster response in U.S. history. Voters who remember this debacle a year from now will not look kindly on the Trump White House or its allies in Washington.

Friday, October 13, 2017

Bank Failure: The Farmers and Merchants State Bank of Argonia

The FDIC reported the liquidation of The Farmers and Merchants State Bank of Argonia. This was a small bank with two locations in Argonia and Schulte, Kansas.

It did business as Farmers & Merchants State Bank & Insurance Agency. The combination of banking and insurance might seem strange. There was a brief period after 1999 when many in the banking industry thought every bank should also be working in insurance. Most such arrangements were unwound by 2010. I have never seen an example where combining banking and insurance worked well. With so little operationally to connect banking and insurance, each business would have to be a distraction from the other. There are also financial implications. When a community bank makes half of its money from mortgage loans in its local area, concentration of risk is a concern in the first place, and this only gets worse if the bank is also issuing the insurance on those loans. I don’t have any relevant information on the cause of this bank failure, but regardless of the real story, the failure of any “Bank & Insurance Agency” may serve as a further caution to anyone who might be considering that combination of businesses.

This is the first FDIC bank resolution since May 26, which means the United States went for three months without a bank failure. This is what the pace of bank failures looks like in normal times, and it means that banks are doing reasonably well, even if hundreds of banks have not yet recovered financially from the real estate crash of a decade ago.