Boston area college students and entreprenuers leaving townBy Randy Giusto- In my last post I addressed some of the fundamental issues impacting Boston’s entrepreneur community, and the role and mood of area VCs and angel investors, and how it’s leading to a continued exodus of bright graduates from the Bay State. These were thoughts discussed openly and in side conversations at many events this past year, and most recently at Foley’s Emerging Technology Conference.

The most honest discussion on this issue was during the “Putting Your Money Where Your Mouth Is: Gaming In Today’s Economy” session at Foley’s conference. Panelists included Fred Chesnais, GM of Interactive Game Group LLC, Dayna Grayson of Northbridge Venture Partners, Doug Levin CEO of Ayeah Games, and Jerry Wolesenko of Terrific Corp.

Boston’s Gaming Heritage

Boston’s been a beacon of success in gaming, and has something to show for itself. After all it’s the home of Harmonix and Blizzard. The industry though has gone through massive changes over the last five years, shifting from a rigid developer to publisher model (box to store) to an efficient digital distribution system with big pipes. It’s led to more immersive, more casual, and more mobile games. The cost of capitalization and game creation is now much, much lower, and the result is that the segment’s overloaded with lackluster content.

Dayna Grayson of North Bridge Venture Partners illustrated Boston area VC’s attitudes towards gaming when she said- “we look for disruptive changes with any market. What will change the gaming market? There are now proven ways to monetize a social game that interest us. Investors say “it’s hard to make content bets” but in social gaming it’s getting easier.”

But I need to point out that it’s the content bets that have really driven the US gaming market these past ten years. And if Boston’s not making bets, LA, the Bay Area, and Montreal surely are! Social gaming is new and hot, but there are other segments, and Boston’s investment community isn’t as supportive in any of them as other areas of the country are.

The Buzz Beyond the Bay State

Fred Chesnais is based in New York, ran Atari, and is now putting all his money in IP rights. “Today, you can enter at any point in the value chain, with as little as $50,000. There are ways to minimize the downside.” The problem is that Boston doesn’t have anyone like Fred. New York used to be a sleepy technology, social media, and gaming investment community, and it’s now very, very vibrant, and outshines Boston in many ways.

Doug Levin pulled few punches on the panel saying that “Boston’s challenging to find angel or VC funds for gaming. We don’t measure up to angels or VCs in New York or California at all! New York’s casual game market is very hot right now, full of savvy micro cap investors in social Internet and gaming. Boston has none of that! Boston VCs are not complete in the knowledge of the consumer market or gaming.”

Gun Shy

Spending over 15 years based in Boston as an industry analyst and also a lot of time on in the Bay Area, LA, Asia and Europe, I see the same thing. I’ve also heard these same opinions at other Boston events over the past two years. I also don’t think the Bay State understands the consumer market. As Levin points out, to which Grayson agreed, “Boston VCs got burned by Lycos and they’re not good at going back into areas where they got burned. Boston passed on Facebook and it’s cursed them every since.” I’ve also seen it in the many deals that went west or south. FourSquare is a New York hit while it’s founder, Dennis Crowley grew up right here in the Boston area.

I share some of Levin’s views because I’ve seen it first hand with VCs as clients when I was with a former firm, as I studied the interworkings of Boston’s investment community these past two years. There’s an ecosystem problem here. As Levin stated, “No one here has a knowledge of game mechanics. Executive recruiters don’t bring candidates with experience, who have launched successful titles.”

The Social Gaming Bandwagon

If Boston VCs are investing in gaming they are disproportionately focusing too much on making comparisons to Zinga and its Farmville app, which to Levin is “dangerous” and he sees game companies as big data companies. Having done research in gaming and run a subscription-based gaming research offering I’ve realized the tons of data that gaming companies sit on. But bigger game vendors focus on the same thing. The challenge is to get people to install the game, become active players, and then hope that they become enduring users for years. The gaming market is also aging, because of two things. First, gamers themselves are aging and second, Baby Boomers have been entering into social and casual gaming in droves.

According to Levin, the cost of acquisition has to be 1/3rd of the long term value, which is $1 or less, and is really challenging, “and  is something VCs can’t wrap their heads around.” Viral velocity is critical. Small studios that go super viral are stampeded by VCs looking to invest. But the bottom line is that you have to prove that you have audience first to get a Boston VC to talk to you.

There is a better chance if you’re developing social titles. Farmville has the most active users today at about 82 million, followed by Mafia Wars at 69 million. Last year there was a lot of buzz around virtual goods taking off despite lackluster results at sites like Second life. But it was the online and mobile segments along with the emerging social one that became ground zero for virtual goods. Today they amount to about 1% of the gaming purchase, but at Zinga they’re 2-3%.

The Economics Have Changed

According to Chesnais, virtual goods’ success is coupled with today’s ability to provide micro invoicing, thanks to both the Koreans and Apple. “In social games we have a revenue bubble thanks to micro invoicing.” Today’s gaming revenue models are subscription- how can we snag people for $10 a month? Ad-based- where the game is free and you sell ads to support it. And in the middle are social games with micro-transactions. Chesnais has one title on Facebook that alone pulls in $700,000 per month. “However, if you don’t have 2 million active users per month playing your game on Facebook, you don’t show in the charts. A Facebook game can cost as little as $30,000 to create, so only do 3 levels, and make people pay for extra ones.”

With nearly 500 million people on Facebook projected to grow to 2-3 billion in 2-3 years, games appear to be its future, according to Levin. “The revenue speculation bubble is worrisome. There are a lot of acquisitions, and lots of overpaying is going on (look at Disney)!”

Virtual goods and services around them are thriving and surprisingly, its not a market made up of over-caffeinated young males. Lots of older people are buying virtual goods. The success of iPad, iPhone, and Android has created new game experience devices. As both tablet and smart phone segments grow globally, gaming on them will too.

The College-VC-Government Disconnection

Levin bluntly stated that the problem with Boston’s gaming market is that “Boston area colleges don’t provide the bridge between the entrepreneur program and the community.” He especially expressed disdain for Harvard and a handful of professors there “who are basically telling graduate students to go to Silicon Valley. The have several older professors there that do this day in and day out!” For Levin, MIT is a different story with their entrepreneur incubation lab. I’ve actually been to the lab and last summer helped some angel investors vet a young MIT social startup. Ironically, the startup ultimately went to the Bay Area and got funding, when the angels passed on them. It wasn’t they didn’t have a good idea, it was that there were one or two comparisons out there, and the Boston-area angel firm was looking for a sure thing.

According to Levin, “Singapore has a great lab where they build and test games at the school level, embrace graduates and bring them into companies once they exit school.” I and others around me in the audience agreed that we have nothing like this in Boston, and that we have the naiveté of the angel and VC community when it comes to the consumer or gaming markets. Boston doesn’t have anyone with superpowers to build an ecosystem to pull the brightest and best entrepreneurs out of our colleges and seed their development, in hopes that they stay in the area. “We have no guys like Fred!” according to Levin, “and our city and state governments are not playing a role, at all!”

Gaming has become regional both globally and in the US. Korea’s strength in gaming was PC-based driven by government investment in broadband and then mobile by its cellular infrastructure. Montréal’s taken off because it’s tax break driven. LA is hot because media companies are there. So is NewYork. These markets are making 5-10 year bets on gaming, not 2-3 year ones like the investment community in Boston.

According to Wolesenko, WPI has a full degree curriculum in video game design, and some graduates emerge with true entrepreneurial spark, “but Boston graduates don’t have the opportunity. They have nowhere to go for funding except California or New York!”

Bright Spots

After the panel, I took some time to reflect. Babson, Bentley, and Northeastern have good technology entrepreneur programs, but each have little if any connection to the VC community for graduates coming out of their programs. Northeastern has an online Masters of Science in Technology Commercialization program as part of its I-cubator. I actually considered it two summers ago when I found myself no longer working in corporate America, but instead started consulting. It’s run by Tom Ermolovich, an entrepreneur and senior engineering executive, of Voice Signal fame. So good things are happening at some of the universities, but coming out of them is where the issue begins.

Can We Stop the Spiral?

Has the Boston VC community become the bastard cousin to California’s, and the ugly older brother to New York’s? It’s amazing how New York has quickly risen as a formidable technology investment market over the last three years while Boston continues to decline, and is in danger of becoming second-class.

I’ve met many entrepreneurs who now loathe approaching Boston VCs and instead go to California to seek funding. Many have focused on friends and family or individual investor funds, giving up on Angles and VCs who aren’t savvy enough about the consumer online, mobile, or gaming markets, as it becomes a lesson in futility dealing with them. These entrepreneurs also don’t want to give up 35% of their firm to someone who just wants to sell them in 2-4 years, to a Cisco, Microsoft, Google, HP, IBM, Symantec, firms with Boston area presence but are not headquartered here.

So the knowledge and entrepreneur brain drain continues. Fifty percent of the Boston area’s college graduates leave the state. Many entrepreneurs are giving up on Angels and VCs, heading to California to seek A round funds. Boston VCs are conservative, but they’ve bred a culture of taking no risks and hedging their bets, while hundreds of students pour out of our universities with great ideas and no one to help them locally.

California angels are at least handing out $20,000 left and right to individual entrepreneurs out of college. While $20,000 doesn’t get you much, it does gets you to a few conferences to meet people, possibly future team members, and gain some traction.

I’ve seen this going on now for three years, but I don’t see it changing. Mayor Manino will be speaking at Mobile Monday Boston tonight, November 8th, to Boston’s mobile entrepreneurs. I hope his administration has some fresh ideas, and that the Patrick administartion has some as well. Unfortunately, I’ll be in New York, meeting with it’s vibrant tech community.

– Randy Giusto