As the gaming masses shift from consoles and big screens to smartphones and tablets, game design studios such as Electronic Arts (EA) and Zynga (ZNGA) are having a tough time pivoting resources and talent to mobile platforms, where the profit margin can border on obscene. That’s why it’s very good to be Finnish mobile games developer Supercell, a two-year-old startup familiar to few outside Helsinki. With only 95 employees, Supercell is taking in $2.5 million a day from virtual goods sold in its top-grossing games, the medieval tower-defense game Clash of Clans and crop-tending simulator Hay Day.
Launched last summer, both free apps feature vivid graphics and addictive gameplay. With a combined 8.5 million registered users, the apps have stayed at the top of Apple’s (AAPL) iOS game charts since December, a rare feat for typically flash-in-the-pan mobile games. Supercell needs plenty more hits to survive over the long haul, but it’s flourishing now by charging real money for resources to buy the virtual suits of armor or sacks of seed needed to advance to higher levels within its games. The privately held company turned an operating profit of $104 million on revenue of $179 million in the quarter ended March 31, says Ilkka Paananen, its 34-year-old chief executive officer and founder.
That 58 percent operating margin is unheard of in the console video game business, where top earners typically see margins of roughly 25 percent. In April, the game developer closed a $130 million round of financing that valued it at $780 million, creating a lot of paper millionaires. Backers led by Index Ventures, which also funded Dropbox and Path, include early Facebook (FB) investor Accel Partners and Atomico, the fund started by Skype (MSFT) co-founder Niklas Zennström. “Going from zero to $2.5 million in revenues a day, all in less than two years—we haven’t seen that kind of growth before,” says Index partner and co-founder Neil Rimer.
In Clash of Clans, each player starts with a small medieval settlement in a forest clearing and builds it into a larger and larger community, with an ever-larger army to defend it and raid other towns. Hay Day opens with the player inheriting an uncle’s farm, charged with turning its chicken pens and dilapidated silos into a bigger business.
In both games, advancement requires cannons or feed mills that cost virtual currency, which can take a maddeningly long time to accumulate in meaningful sums. Players with a real-world credit card, however, can purchase these items from in-game shops as a shortcut to speed things along. The average user plays for short bursts 10 times a day: Threats endanger players’ digital domains even when they’re logged off, so the games prompt frequent returns with text messages warning of incoming raiders or broken plowshares, demanding further investment in reinforcements or supplies.
Zynga’s Facebook smash Farmville, released in 2009, had more than 32 million daily users at its peak in 2011, pushing the company to more than $1 billion in revenue the year before it went public. (Soon after, the shift to mobile punched a massive hole in its user base; in February, Zynga reported a net loss of $209 million for 2012.) On mobile platforms, Angry Birds creator Rovio, with headquarters in nearby Espoo, Finland, made its money by pushing tons of ads to free players, and a little more by charging users an extra buck or two to download an ad-free version. By contrast, Clash of Clans players looking to climb past the first few easy levels are paying $100 a pop for a chest of gems usable as currency in its virtual store; Hay Day’s trunks of gold coins cost $80 each. As Supercell’s coders roll out a new level of advancement for players each month, both games have remained top-five iOS store grossers since December, according to Bertrand Schmitt, CEO of market-research firm App Annie.
To entrench its position and ensure avid users migrate to the company’s next title, Supercell has invested heavily in testing early versions of new games. “With console games, they cost a lot to develop and you cannot do it quickly,” Paananen says. “Our aim is to put a new title into the hands of users as quickly as possible, either via focus group or in beta sessions. That creates an instant feedback loop. Do you invest more in the game, or kill it and come up with something new?”
Paananen is also spending generously on customer service, maintaining a round-the-clock game support team operating in 12 languages online. The team staffs Twitter feeds and online forums to troubleshoot the apps and answer gameplay questions. “We need to talk to our users 24/7,” Paananen says, because it pays off. “When people meet in the cafe, they compare apps and games. It is the great games that spread naturally,” he says. “We have launched in some markets, like Germany and Turkey, with zero marketing spend.”
Of course, the video game business has no shortage of developers who’ve soared, crashed, and been quickly forgotten. If others can match the addictiveness of Supercell’s games, there’s little to stop them from duplicating its model, says Schmitt, noting the similarities between Hay Day and Farmville. Supercell’s biggest handicap: Paananen says he has no set plan to expand into Android (GOOG) OS, the fastest-growing mobile market. That leaves half the current market untapped and vulnerable to knockoffs or competition from larger players—especially in gaming hubs like Japan and South Korea. Japan’s GungHo Online Entertainment, which created the popular mobile game Puzzle & Dragons, is already making a killing on Android phones. Rimer at Index Ventures says his firm is confident Supercell’s winning streak will continue, but he’s waiting to see how. “That’s the question,” he says. “What do they do for an encore?”
The bottom line: With a dedicated user base regularly spending big money, mobile gamemaker Supercell turned a 58 percent operating margin last quarter.
