Epic Games’ Epic Battle on Storefront Space

The Wall Street Journal reported that Epic Games will challenge mobile app store business model dominated by Google and Apple. But what factor differentiates Epic Games from incumbents whose network effects are working in this case? The answer is disruptive pricing on the supply side of storefront (12% rake on revenue that apps generate). This is not surprising as Epic Games has already adopted the strategy at its Epic Games Store since December 2018 when it launched the online storefront. Basically gaming online storefront and app store share the similar business model of digital distribution.

WSJ also reported that Epic will start selling games (if you can distribute app game, of course you can distribute other apps) for Android devices where the ecosystem is more open (Epic distributes Fortnite at its launcher bypassing Google Play).

So what will Google react to that disruptive pricing? Mostly likely Google will wait and see until it senses that Epic’s storefront has the potential to become de facto app store on Android devices.

Analyst suggests that if Google decides to reduce the rake on Google Play, the move might force Apple to adjust rake on App Store. There might be a chain reaction but this is different from the competition on PC/Mac gaming storefront. Basically the customer bases between iOS and Android are different. The difference will determine whether Apple will follow the move, when to follow, and the magnitude in rake reduction if it follows.

Below is the chart illustrating how Epic Games’ disruptive pricing might impact game digital distribution (and more). Disruptive pricing will have less impact on closed ecosystem in the short term. That said, in the long run, closed ecosystem might be indirect influenced by another open ecosystem (Google Play’s move might have impact on App Store) and a functionality that makes the ecosystem less closed (Epic Games is rolling out cross-platform services in 2019). Enabling cross-platform will commoditize access devices for games potentially playable across platforms. Consoles with special form factors or strong exclusives will face less pressure from cross-platform. This might be the reason why Sony is reluctant to cross platform.

Disrupt_Pricing_DigiDistrWhile some industry analysts predict Steam will maintain its game storefront dominance, at least in 2019, my posts on game storefront competition analysis has showed that Epic Games and Discord’s potential to gain market share and disrupt the digital distribution space if they systematically execute strategies in their playbooks. Don’t be surprised if the competition landscape changes much faster than you think.

~ My Related Posts ~ 

Gaming-related Platform Ecosystem Competition and the Financing behind

Entering a market where existing platforms have network effect working

Networks can still be beaten

Gaming-related Platform Ecosystem Competition and the Financing behind

On December 21, 2018, it’s reported that Discord raised US$ 150M at a valuation of US$ 2.05B, bringing total funding to date to US$ 279.3M as of this writing.

The timing is particularly interesting because the online storefront price competition on supply side among STEAM, EPIC Games and Discord has heated up since Discord’s “Series E” funding round (Crunchbase classification) in April 2018.

Chart below shows the 2018 timeline of competition on online storefronts and more among STEAM, EPIC Games and Discord.

Storefront 2018 timeline

I have already done some analysis on online storefront supply side pricing and competition in my previous post (Entering a market where existing platforms have network effect working). So in this is post I’d like to briefly discuss implications on the financing side (my speculation only as no access to inside information).


The financing round in April 2018 was to further build the core product and to launch Discord Store. At that time, the next round of financing probably was structured as growth funding for the user acquisition on supply side or demand side of Discord Store and for subscription service. EPIC Games Store’s adoption of disruptive pricing not only forced Discord to follow similar pricing level but also probably had impact on the commercial terms of subsequent financing. Lower pricing means it takes longer for cac to recover and longer to reach profitability.

Thanks to  Discord, Discord Store might not have to spend a lot on demand side gamer acquisition. Discord Store might focus more on the supply side developer acquisition.

[EPIC Games]

EPIC Games had huge financing round in October 2018 that it raised US$ 1.25B making it 2018 largest venture round in the U.S.

The capital raised might go into various area such as technology, esports, online storefront build-up & scale-up and cross-platform online services for developers… In storefront segment, unlike Discord Store, EPIC Games Store has to put more efforts on demand side gamer acquisition.

TechCrunch reported that EPIC Games has generated US$ 3B profit in 2018. If it is the case and the accounting “profit” is not far away from cash flow, that means EPIC Games has US$ 4B+ cash from internal and external to grow its business. The scale is so large that it makes me feel the likelihood for EPIC Games to successfully execute an ecosystem strategy is quite high and that the next round of financing for the company will be the IPO which might be sooner than expected.

[Side Note]

Does the two percentage points difference between EPIC Games Store and Discord’s rake  matter? Business with positive feedback loop(s) tends to have increasing return overtime making market gaining process path-dependent. However, the only thing we can  infer from being “slightly” price attractive on the supply side in the short run is that it might help a little bit but it’s unlikely to be the only determinant since the competition is dynamic and firms are solving different problems and focusing on different things in the ecosystem when building up storefronts. This might be obvious but in fact it indicates the market structure might be market-sharing with some concentration rather than winner-takes-all (or most). This also helps us make prediction: incumbent’s market share will fall significantly due to the competition from new entrants. In other words, while network effect is strong, it can still be beaten.

~ My related Posts ~

Entering a market where existing platforms have network effect working

Networks can still be beaten

Mercari (4385.JP) – Note on Category Deepening, Product Enhancement & Marketplace Stickiness

Mercari (4385.JP)

[December 25, 2018]

* Note on Category Deepening, Product Enhancement & Marketplace Stickiness *

Following series posts on Mercari (initial analysis, withdrawal from UK) and its related topics (network effect and digital payment service), this notes examines Mercari recent marketplace deepening/expansion/enhancement initiatives and also does an ideation exercise on user generated content (UGC). The UGC might benefit the marketplace in several ways such as creating more stickiness on user base even though switching cost between platforms is low and increasing traffic internally and externally which might alter purchasing frequency on certain categories and create monetization potential (lead generation, advertising, or even create another marketplace) once the content on particular product/subcategory/category has accumulated to certain level.

[Acquisition of Michael Inc. via Share Exchange]

On October 18, 2018, Mercari announced the acquisition of Michael Inc. which owns automobile-related social network service, “CARTUNE.” CARTUNE has built a community and accumulated automobile related UGC. Mercari aims to increase the listing of automobile category (liquidity) by leveraging CARTUNE’s community. With the benefit of hindsight, the timing and mechanism of the deal benefited the Buyer.

The Company is pushing ahead with its efforts to enhance every category on its C2C marketplace, “Mercari”. The Company, among others, has been making efforts to increase the distribution volume of items in the automotive categories, including the launch of services that allow users to list automotive parts for sale in July 2013 and automobile bodies for sale in May 2016.

Michael has plentiful information concerning automobiles and automotive parts posted by users and off-line and online communities composed of users across a wide range of age groups through the operation of its automobile related SNS service, “CARTUNE”.

The Share Exchange enables the Company, together with Michael, to combine the automotive categories of the Company with the user base, communities and operation know-how of “CARTUNE” of Michael and thereby accelerating the enhancement of the automotive categories with an increase in the number of automotive parts listed for sale.

While the move is quite reasonable and the integration on the technical side should not be difficult (though I’m not a technical guy), the monetization method of marketplace might not be compatible with social network. Simply put, the interaction between users  fostered by the social network makes it easier for them to transact outside of the marketplace if the benefit of marketplace does not significantly exceed the transaction costs incurred offline, particularly for high value automobiles and automotive parts.


If potential buyers can check onsite and so can they transact offline.


It seems Mercari has plenty listings under automobile categories but we can expect liquidity and transactions cluster in certain subcategories. As a market participant, I would be curious about the integration and initial post-acquisition results.


[AI vision proof of concept shopping experience for the Vuzix Blade®]

On December 20, Vuzix® Corporation, Mercari, Inc., and Mercari R4D announced the start of a AI vision proof of concept shopping experience for the Vuzix Blade® AR Smart Glasses. (Mercari announcement in Japanese; Vuzix announcement in English)

Below is the prototype demo video.

I don’t see much advantage of wearing glasses to do product search, discovery, or comparison over using the camera on smartphone.

If the stuff got commercialized eventually, my prediction is that it is unlikely to get wide adoption. Mercari will need to spend on customer acquisition and probably subsidize early adopters (price the product below cost or even give away for free). The churn is expected to be so high that the incremental customer lifetime value on power users (heavy users or addictive buyers) cannot cover the upfront customer acquisition costs and the ongoing retention costs (probably in the of form benefits given to users). My use case for this product is customer engagement tool which is free giveaway to power users.

The real asset is AI vision which is able to recognize the item and match with existing listing. Maybe at some point in the future, they will pivot hardware that the software is running on.

[Ideation on UGC]

One of challenges that marketplaces face is that their users can multi-home. In other words, the switching cost between platforms for users is relatively low (while sellers  on the marketplace might find their transaction / review records valuable because it gives them credibility). Unlike technology platform or standard, marketplaces generally do not have lock-in effect on users. This is why marketplaces have to focus on user engagement and mechanism design that makes the platform stickier for users. I think community (social aspect) and UGC are two keys to increasing C2C marketplace stickiness (but still difficult when facing disruptive pricing). As discussed above, there might be conflict between the interaction in community and the monetization method of marketplace. Thus, here I focus on pure UGC where users have to invest their time and efforts to create content, but ignore the social aspect surrounding UGC. The problem of the setup is in reality the ignorance of social aspect might lead to insufficient incentive for content creator to contribute.

While Mercari as a whole has already gained enough liquidity, the density across categories might differ significantly. The UGC experiment should start with specific product that has enough liquidity or users’ interest (via survey).

Below is my illustration of UGC mechanism attached to specific product.



0. Decide a category and build an UGC infrastructure that is easy to create, store, present content for creators and easy to consume for consumers. Open the UCG feature to existing marketplace users.

1. Start with 1 or just a few products which either have liquidity or potential buyers/sellers and figure out what kind of suitable UGC types might interest users.

2. Solve the chicken-and-egg problem from supply side by providing in-house created contents first.

3. Observe the reaction, keep records and see whether the feature is gaining traction

4. Expand the UGC feature to other products / categories and open the feature to public.

There will be various curation/modification/fine-tuning in the process. Once the content has accumulated to certain level, the benefits clearly show up.

For example, the UGC on cast-iron cookware are recipe, product reviews, maintenance tips etc. The content can attract outside traffic which might flow to Mercari C2C marketplace and to other websites (Mercari can capture this by setting up a B2C marketplace or incorporate B2C into existing marketpalce). UGC might increase propensity to purchase and the purchasing frequency on Mercari. Consider monetization after UGC has meaningful traction.

Basically, each category, subcategory or even product can be viewed as a vertical. The category-by-category approach in UGC platform building will help the company  better understand  each category. Probably the company might find better ways to serve some categories. It might be hard for a startup to compete with Mercari on whole C2C marketplace but focusing on particular category is much more feasible. What inevitable is emerging competitors will try to attack on specific vertical and eat away that GMV.

[Side Notes]

When analyzing Mercari as a whole and looking at initiatives it is taking, I cannot help relating it to giant Chinese or US internet companies. Why? Because Mercari is pursuing many opportunities (what they present sounds fancy). This reflects in various subsidiaries and related websites. Coupled with aggressive talent acquisition, I believe the environment within the group must be “vibrant”. While the environment might be chaotic, what it gives Mercari, its shareholders and potential financial/strategic investors is the optionality.

Pursing many challenging opportunities is ambitious but the concept of density / critical mass might be also applicable to human capital / research and development…

~ My Related Posts ~

Mercari (4385.JP) – Initial Analysis

Networks can still be beaten

Entering a market where existing platforms have network effect working

Mercari (4385.JP) – Note on Withdrawal from UK


~ Corporate Event ~

FY2019.6 Q2 Financial Results Announcement (15:00 JST)

PDD.US – 3Q18 Results Quick Look

Projection vs Actual


Source of Difference

~ Operation Metrics ~

[1] Conversion rate defined as LTM Active Buyer / Avg. MAU decreased (an improvement for me) significantly by around 10 percentage points.


[2] Actual LTM average rate per active buyer is higher then projected

[3] Overestimation of adoption rate based on Wechat MAU

[4] Underestimation of monetization rate

~ Resulting Financial Results ~

[Revenue] Slightly overestimated by 1.9%, after factor in all top-line related operation metric estimation difference

[Gross Profit] Underestimated Gross Profit Margin by 1.5 percentage points. The absolute amount is luckily inline.

[Sales & Marketing Expense] Slightly overestimated by 1.4% which means the my LTM CAC approach and parameter estimation were both fine in 3Q18.

[General & Administrative Expense] Underestimate a lot due to noise of one-off share-based compensation in 2Q18. Now we have a clearer ratio (and hopefully more stable) to project going forward.

[Research and Development Expense] Underestimated the R&D exp ratio by 2.8%. Basically it’s at management’s discretion so if the company thinks it’s too early to provide guidance, what we can do is guessing based on historical data or other information.

[Operating Loss] Taking into above deviation, operating loss was underestimated by 33%.

[Interest income] Will start model the line item based on beginning all cash position + short-term investment

~ Implications ~

  • User engagement gauged by LTM Active Buyer / MAU is improving. The characteristic of metric indicates further decrease in metric for next few quarters before stabilization.
  • The characteristic mentioned above might show in the monetization rate as well.
  • While unit economics further deteriorated this quarter, the cash burn is very likely to be covered the cashflow PDD extracted from the marketplace (changes in net working capital). This is very favorable for platform to scale up. In addition, the marketplace finance might a major source of profit contribution in the future.


PDD.US – Initial Analysis


[November 17, 2018]

* Initial Analysis *

Business Model

PDD is platform-on-a-platform marketplace which leverage established social network of foundation platform to aggregate consumer demand at large volume for merchants enabling deep volume discount for consumers.

Current Monetization / Revenue Stream

Currently, PDD monetizes the marketplace by providing online marketing services to merchants and charges merchants commission fees to cover payment processing fees and other overheads. The mechanism of rake is still not built in the platform. Rake might be another revenue stream if the platform merchant profile and consumer behavior shift in the future (this might gradually happen if PDD’s attempt to build brand and trust works).

Quality Assurance Issue

PDD has been fixing counterfeit product issues. Discount-oriented marketplace is more likely to have quality assurance and trust/credibility issues to deal with.

Unit Economics & Growth Drivers

PDD monetize the marketplace directly and indirectly. Commission fee is more likely to have linear relationship with GMV while the relationship between OMS revenue and GMV is not clear at this stage. OMS revenue depends on merchant marketing spending to promote their products and how much PDD marketing service they use. Both revenue streams are driven by directly/indirectly by GMV.

GMV on the marketplace depends on how many active buyers and how much they spend on average during a given period. Average buyer spending depends on average order size and purchasing frequency in the given period.

Due to limited access to information, the modeling here starts with foundation platform MAU and applies an adoption/penetration rate to it to derive PPD MAU. Then a conversion rate is applied to PPD MAU to derive LTM active buyer. Then rolling LTM method introduces seasonality in quarterly projection. LTM GMV projection is based on active buyer and average spending assumptions.

One user behavior is discovered in the conversion analysis. As PDD only discloses LTM active buyers and three month ending MAU, if the conversion rate is defined as LTM active buyer / MAU, we would find the ratio is 176%. Two implication from positive deviation from 100%: 1) Monthly period might not be an appropriate time horizon to estimate gross user base; 2) the user base might experience a high churn rate which leads to high buyer acquisition/retention/re-activation costs for the marketplace.

Compared to PDD’s number , BABA’s ~90% looks more healthy although I’m not sure whether metrics are comparable.

The aforementioned concern can be checked with unit economics analysis. It’s difficult for a marketplace suffers from high churn rate resulting from either internal/external issues to enjoy the structural cost advantage on platform. Jun-2018 LTM Contribution Profit 1 (CP1) was 12.9 RMB per active buyer while All-in CAC increased to RMB 12.9 from RMB 5.5 in Dec-2017.




Two-sided platform-on-a-platform

By leveraging the existing social network, the initial user acquisition cost for PDD is significant low compared to building up from scratch. Once the marketplace has solution demand-side in the start-up problem, it’s relatively easy to scale up the platform. PDD experienced exponential growth in the past 3 years. However, the increasing all-in CAC might indicate the network effect / scale in this type of platform business cannot protect it from competition on different value proposition.

The business model is easy for existing e-commerce players with scale to replicate. It seems switching cost at this type of marketplace is relatively, different marketplace will compete on value proposition and stickiness.

Marketing / Branding

Probably not comparable. Several years ago I had a branding lecture at HTC earnings conference call when it launched HTC Butterfly. So I didn’t feel every comfortable when I saw terms like brand awareness/recognition or concept of nurturing merchant’s own brand in the marketplace’s first earnings conference call transcript.


The good news is that it seems this marketplace is able to extract working capital from merchants when scaling up. Thus, if there’s no other major capital expenditure in the near future or ridiculous marketing campaign, PDD should have no additional external financing need.

Mezzanine Equity

It might be better to figure out the mechanism of the mezzanine equity base.

What to bet on?

This is a listed start-up: 1) execution on current business plan; 2) pivoting optionality; 3) acquisition target. The analysis should focus on its founder and management team.

~ Corporate Event~

  • PDD to report its unaudited financial results for the third quarter ended September 30, 2018, before U.S. markets open on Tuesday, November 20, 2018.
  • Earnings conference call at 8:00 AM U.S. Eastern Time on November 20, 2018 (9:00 PM Beijing/Hong Kong Time on the same day).

~ Materials ~

PDD 2Q18 Conference Call Presentation

BABA 3Q18 Conference Call Presentation