At Unity Technologies, chief executive John Riccitiello sees a sea of games and game startups streaming through doors. Unity was founded in 2003 to “democratize game development” with easy-to-use game engine tools. In the last quarter, 220,000 games were made with Unity, and those games were downloaded 4.2 billion times in the first quarter on 1.7 billion devices.

Riccitiello, the former CEO of Electronic Arts and a “lapsed investor” in game startups, has seen a lot companies and has a lot of observations about what makes a company and its game stand out. He spoke about this topic with Mike Gallagher, chief executive of the game industry’s trade group, the Entertainment Software Association, in fireside chat at our GamesBeat Summit 2016 conference last week.

The Unity boss also offered an update on his prediction that we’ll see a “gap of disappointment” in the virtual reality market.

“The truth this year is that from a hardware and a software perspective, it’s a masking tape and twine year,” he said. “These things are barely making it to the shelf. They’re barely making it to the consumer. They do magical things. I’m a giant bull on the long-term opportunities for VR and AR. But these revenue forecasts for the early years—they’re going to miss their numbers in 2016 by 80 percent. They’ll miss them again in 2017 by 60 percent or more.”

Here’s an edited transcript of their conversation.

John Riccitiello of Unity Technologies worries about a wave of disappointment with VR.

Above: John Riccitiello of Unity Technologies worries about a wave of disappointment with VR.

Image Credit: Michael O'Donnell/VentureBeat

GamesBeat: John is CEO of Unity Technologies and previously was CEO of Electronic Arts. What most of you don’t know is that John was also, for three years, chairman of the board at ESA. During that time he led, from the industry side, our victory in the Supreme Court that established the free speech rights of everyone in this room. John helmed that exercise with the board, and two years later he led our response to Newtown, where we were falsely accused of all sorts of things. It was John’s energy that helped us turn that around. We’re very fortunate to have him here.

John, let’s start with startups. Looking at your report you recently put out from Unity, 220,000-some-odd games were made on Unity in the last quarter. 4.2 billion downloads on 1.7 billion devices, something like that. Lots of engagement. What’s the environment like now for startups? What does it take to be successful?

John Riccitiello: If you read anything or watch interviews, developers – particularly in the mobile arena, where there are so many new startups – they complain a lot about how hard it is. They talk about how the Supercells and the Kings and others are at the top of the charts and that never moves. The massive expenditures involved in acquiring a user, how difficult it is to monetize. If you have a top-50 chart that doesn’t seem to change, it looks like an insurmountable task. It’s sad, but on a regular basis I’m asked to give a reference for someone who was at a startup that didn’t work. It’s very hard.

If I were to pull back a bit and give an insight into why that happens, I think it starts with the real motivation for why people start game companies. I’d argue there are way more started up that don’t have what I’d call the right motivations. More often than not, folks might not have gotten their manager or director promotion in a larger company. They were frustrated that their company wouldn’t produce a game they wanted to work on. They ran into some sort of career frustration, and that was enough to get them to blow it off, tackle a bit of relatively easy VC money – it looks easy when you’re imagining it coming together, anyway.

That’s almost never going to work. If you think about the professional entertainment industry, building games, think of it like the NBA or NFL. These are amazing teams of people who have a very clear idea of what their source of competitive advantage is, what makes them better. I’ll meet a team and they’ll say, “I’m the BD guy. He’s the marketing guy. We’re looking for a designer. We’re raising money.” But the only startups that I see work are invariably people possessed of absolutely crystal clear visions of what they want to build.

They’re not still deciding on freemium versus free-to-play. They know exactly what they’re building, who they’ll build it with, how it’s differentiated in the marketplace. They have a clear view of what “good” is. Whether it’s graphic quality or gameplay or multiplayer versus not, the business model, they see a clear spot in a red ocean. They see a blue island they can land on. They’re going right for it.

Too often I meet folks out there raising money, or they have raised money and they’re building something, and they just kinda wanted to be CEO of a game startup. That’s not enough. So it’s tough, without a doubt, but if you can’t be absolutely clear and compelling about what you’re building and why you’re building it, who it appeals to, why it’s different, who’ll build it with you, why you think you’re better than anyone else there, keep your day job.

GamesBeat: How important is the team component when you’re looking at the success forecast for a startup?

Riccitiello: The team is just about everything. I’d bet on a team before an idea, given a choice in this industry. Talent is a lot scarcer than it looks. It’s hard to make a great game.

But part of what I look at—there was a lot of brouhaha recently about the long hours people put in in the game industry. I’m not going to comment one way or another on whether that’s a good idea. But I will tell you, the games at the top of the charts, or the games that will get there, are driven by people with a maniacal focus on making every pixel perfect. They care about the craft.

Look at anything in the top 10 or 20 or 30. You may not like the game, but what they were trying to do, they’ve generally executed it brilliantly. The world doesn’t pay for MPVs anymore. It’s not a wide-open blue ocean. You have to nail it. Nailing it with entertainment, that feeling in your hand when it’s just right, is hard.

That’s what set Nintendo apart. It was the craft. They crafted something that felt right, where everything worked. We all remember Zelda, the musical sounds. They were just right. They felt right.

John Riccitiello of Unity offers advice for game startups at GamesBeat Summit 2016.

Above: John Riccitiello of Unity offers advice for game startups at GamesBeat Summit 2016.

Image Credit: Michael O'Donnell/VentureBeat

GamesBeat: That echoes what Owen Mahoney said this morning, focusing on a unique game and having a compelling belief in your art form. You have a tool that you used quite a bit when you were on the ESA board. You’d ask a series of questions to test the strength of the leader involved in a project, how focused they are. Does that come into play when you’re looking at the success of a startup?

Riccitiello: You introduced me as an investor. I’m a lapsed investor. I’m not spending a lot of time testing startup guys. A lot of developers trying to figure out their ideas—I usually ask them question designed to help them sharpen their own thinking. I don’t think, if I’m meeting a guy just once or twice, that I’m going to have any impact in terms of my ideas being absorbed. But what can happen is, you can ask them hard questions that cause them to think. If there’s any value I add, besides giving them the best tools to build with, it’s asking a couple questions to help them sharpen their own game.

GamesBeat: Let’s focus on the winners. You get down the road. You’re successful as a startup. You become a successful company today. Who are the ones you respect the most? What are they doing to hold that position at the top?

Riccitiello: The number of things that have been written out there about the same five companies dominating the top 20, the same six or seven games dominating the top 10, the same three or four games dominating the top five—it feels like it’s there forever, but let me explain my version of how they got there how they’ve sustained it.

They started with all the right reasons. They were great people with a focus on craft and a clear-eyed view of what they were going to build. That’s what got them there. It’s not what kept them there. They’re playing a very different three-level game of chess than most people in the game industry. They have a deep understanding of the lifetime value of their customers on a cohort basis. They know what they’re going to pay to play that game. They know it within a gnat’s eyelash. They’re very precise about that, and they know it by country, by demographic, by different type of user.

They also know a great deal about what it costs to acquire that user. They know what they’re going to spend to acquire a $7 customer or a $15 customer. They’re going to spend $45 to acquire a $300 customer. If you can arbitrage that in real time, in nanoseconds—if you can spend $20 to buy $50, they’ll do it all day long. You see these massive marketing budgets from companies like Supercell and Machine Zone and King and others that operate at the top of the charts. That’s what they do, and it’s massively sophisticated.

They don’t have a marketing budget going into the air. What’s the point? They can spend $10 million buying $20 customers that cost them $40, but that’s a bad idea. If they have a chance to spend $30 million to buy $40 customers for $20, though, they’ll do that all day long. They’re playing a very sophisticated game. They’ll play and play and play, buy and buy and buy, and then they’ll stop, because they’re moving on to a different cohort and they know exactly where they are.

That level of sophistication takes a while to develop. It takes a lot of scale to be able to learn those lessons. But they’re playing a different game.

John Riccitiello of Unity makes a face at a question at GamesBeat Summit 2016.

Above: John Riccitiello of Unity makes a face at a question at GamesBeat Summit 2016.

Image Credit: Michael O'Donnell/VentureBeat

GamesBeat: Does that tie in to the Super Bowl advertisements and so on? When you look at the advertising from the mobile side, it’s pretty pronounced.

Riccitiello: What they get out of Super Bowl ads, aside from the opportunity to go to a commercial shoot with somebody you wouldn’t mind sitting next to, is an overall performance improvement on their clickthrough rates. I’m not gonna get into the CPI/CPM arbitrage. But there’s another interesting proposition going on here.

The guys at the top right now are monetizing 100 percent on in-app purchases. They don’t do any advertising at all. They don’t put any of their inventory out there. They’re buying inventory, but they’re not putting their inventory out there. One prediction for you, something to think about—in a world where 90 or 95 or 97 percent of the players of these games don’t pay—that’s the reality of free-to-play. They don’t pay. But they can be monetized in an enormously successful way through in-game advertising, whether it’s CPI advertising of other games or brand advertising.

I see it every day. The numbers are very substantial. My company is doing $20 million a month in advertising, helping our customers get to their customers. Here’s a point that I’m making. The data is very clear. It drives increased engagement, does not reduce engagement, and drives increased monetization, not reduced monetization. So if you’re incredibly talented and sophisticated about arbitraging cost to acquire versus lifetime value, someone will replace you if they figure out a better arbitrage with more lifetime value.

I’ve been in the industry as long as anybody in the room. We carry a bias with us. We come from premium games. Advertising is bad. But the truth is, from this year and into the next three to four years, if you’re leaving a monetization model out of your business, you will be beaten by somebody who brings it into their business. That equation for the billion-dollar games, the half-billion-dollar games, the $30 million games, will be precisely the same. Build the craft. Nail the product. But then play the arbitrage game really bloody well. If you’re leaving a major tool off the table, you’ll lose.

GamesBeat: You coined a term, “gap of disappointment.” Perhaps you could share what you meant by that. Where do you see the future of VR and AR?

Riccitiello: The last speaker was very compelling on VR. But what you’re talking about is something that I started talking about last year, and even more of late.

A lot of industry analysis has drawn a straight line of about $7-8 billion in forecasted revenue for the VR business this year, up to 2020, where they put about $120 billion on it. If you look at it, what they’ve largely done is apply the smartphone adoption model to it, which was a heavily subsidized model. It brought $700 machines into your pocket that you’d pay $30 for. That subsidy model was pretty massive. By the time these products got to market they were very well-executed. The original iPhone was a beautiful device, but so were early Android phones.

The truth this year is that from a hardware and a software perspective, it’s a masking tape and twine year. These things are barely making it to the shelf. They’re barely making it to the consumer. They do magical things. I’m a giant bull on the long-term opportunities for VR and AR. But these revenue forecasts for the early years—they’re going to miss their numbers in 2016 by 80 percent. They’ll miss them again in 2017 by 60 percent or more.

In the fullness of holograms dancing on your coffee table–$120 billion is not enough to describe that marketplace. That’s coming. But it’s a longer-term burn. The hardware is not there. It’s way too expensive to attract a mass market in the near term. Mobile VR will give you a good experience, but it’s not a good enough experience to hit that “Wow!” point.

When I talk about the gap of disappointment, what I’ve referred to is—the bullish analyst forecast is like this. The reality is going to be like this. It’s only a matter of time before people say, “Oh, it didn’t happen. VR and AR is all a hoax. It’s a fizzle.” The New York Times is going to run that on the front page, right before Christmas, to piss us all off. We’re going to get that.

It’s going to recover, but all of you out there, if you can, play down this year’s numbers. They aren’t going to happen. Don’t let the journalists get away with the I-told-you-so. They set up this straw monster and the monster doesn’t show up. This is so predictable. The presidential election is starting to feel the same way too, but we can cover that another day.

John Riccitiello of Unity Technologies with Mike Gallagher of the Entertainment Software Association at GamesBeat Summit 2016.

Above: John Riccitiello of Unity Technologies with Mike Gallagher of the Entertainment Software Association at GamesBeat Summit 2016.

Image Credit: Michael O'Donnell/VentureBeat

Question: If you could go back, either at Unity or Electronic Arts, and do something different, what would be?

Riccitiello: That’s easy. I would have predicted the recent generations of consoles coming back when they did, instead of two and a half years earlier. The EA turnaround took longer, because we invested a lot to have leadership.

But what would I do differently—thinking about the time I spend at EA, I was very much a packaged-goods guy the first time. I went off to private equity, came back, and then I was just maniacal about digital. I should have started digital back in 1999 or 2000. We did. We launched EA.com and we thought that was a digital play. I got to write off $280 million for the mess that brought us. It was a horrible failure. You know what it was? It was Facebook meets Zynga, except on a 16K monitor. Zynga and Facebook don’t look all that good sucked through a very narrow straw, and putting pixels on the screen so slow you get bored waiting for them.

I was too early, but I probably should have kept it going. Ultimately, the packaged good is dead. I’m not saying retail doesn’t have a place in our space. It does and it will. But this is guaranteed to be as digital as music is today. My daughter only wants vinyl. People like that will be out there. But that’s not where the money is.

GamesBeat: We did some research before this event, because you’re a pretty quotable guy. This is one that made the cut. “I’ve had the opportunity to learn and recover from failure. Everyone fails. Everyone falls down. Everyone loses a game or gets a bad grade. When it happens, fail well.” That fits our last discussion. But the reason this is most important is that it’s the highest form of a compliment when popular culture imitates that. Gavin Belson, of Silicon Valley, says that, “Failure is growth. Failure is learning. But sometimes failure is just failure.”

Riccitiello: We have to stop on something else. Seriously! There’s nothing like success. Win the ballgame. Do not go out on failure. Thanks, everybody.