Nintendo has ventured into a scary world

There is nothing like a craze. Pokemon Go, the augmented reality video game that uses smartphones to overlay Nintendo’s pocket monster characters on real-life locations, is taking over the world. Since its release last week in the United States and other countries, players are gathering in parks and running into restaurants, hunting Pikachu and other characters.

Investors are also going a bit crazy. Nintendo’s shares have risen by 50 per cent in a week on hopes Pokemon Go can rescue the company from dependence on lacklustre consoles such as the Wii U, and propel it into a world of growth in casual games on smart devices.

Calm down, everyone.

If any company can make the transition, it is Nintendo. It has done so before, notably when it transformed itself from a maker of arcade machines into a console company and games publisher in the 1980s. When it was in trouble a decade ago, it invented the original Wii, outsmarting Sony’s PlayStation 3 and Microsoft’s Xbox 360.

The creative genius behind much of this success is Mr Shigeru Miyamoto, who came up with Donkey Kong and Super Mario, and has overseen the company’s mission to “put smiles on people’s faces around the world”.

Nintendo has an uncanny ability to invent characters that not only do so, but also keep on doing so — the Pokemon franchise marks its 20th anniversary this year.

This inventiveness has enabled Nintendo to avoid the fate of Sega, its former rival that lost its way in the 1990s with the Saturn and Dreamcast consoles before dropping out of the console business altogether. Even now, Nintendo hopes to bounce back in the sector next year with the NX, which is under wraps.

When a games console company is on song, its creative strength in coming up with new and absorbing games feeds into sales for its latest technologically advanced machine. Sony is enjoying this virtuous circle with PlayStation 4, which has sold more than 40 million units since 2013 — although it relies more than Nintendo on third-party games publishers such as Activision Blizzard.

The key to endurance in a volatile and cyclical technology business has been the link between games and machines. A popular video game may be a shortlived craze, but it stimulates consumers to buy consoles and then to buy more games. Creativity was always Nintendo’s driving force.

So what could be better for Nintendo than a new, younger generation of iPhone and Android phone owners running around the world, trying to identify Pokemon and throwing Poke Balls at them? Surely this must have put smiles on executives’ faces at the company’s Kyoto headquarters?

Well, up to a point. The first thing to note is that Nintendo neither created Pokemon Go nor owns it. It holds a 33 per cent stake in the Pokemon Company, which licensed the rights to Niantic, a US augmented reality games start-up founded by Mr John Hanke, a former Google executive. Nintendo invested in Niantic last year but will receive only a minority of the revenues.

A minority stake in a phenomenon is better than no phenomenon or no stake but it reflects the wider context. While Nintendo designs its own consoles, and publishes many of the best-known Wii games itself, it has turned to partners to enter the smartphone world. Aside from Niantic, it is jointly working on five new smartphone games with DeNA, a Japanese games developer.

Until now, Nintendo has stuck within a “walled garden” of games for its own consoles. It weakens this by entering the smart device world, where it no longer controls its platform and must offer games for iOS and Android in competition with other publishers. That is unlike its past transition from one proprietary technology (arcade machines) to another (consoles).

New technologies are open and mobile, including location and mapping, and virtual and augmented reality. This gives the advantage to Silicon Valley software companies, including start-ups such as Niantic. Nintendo may be able to learn through partnership, but it is unfamiliar terrain.

Second, the business model for mobile games is curious. Pokemon Go is an example: Players download it free and then pay for additional items, such as “incense” to lure monsters and Poke Balls to hunt them. Many will not bother — King Digital, maker of Candy Crush, disclosed in 2013 before it was acquired by Activision Blizzard that 96 per cent of monthly users did not pay.

Mobile can still be profitable — Activision paid US$5.9 billion (S$8 billion) for King last year because it had strong revenues and high margins — but is less reliable. Pokemon Go does not retail for US$60, as big console game titles do in the US, and will not feed directly into console sales. The hits have to keep on coming, and they have to keep on paying for themselves.

In some ways, Nintendo is ideally suited to the paradigm shift. It creates the kind of characters that demand to run wild. As Mr Hanke says, it has “wonderful intellectual property that is broadly accessible to men and women, and spans all ages”. Who does not enjoy a cuddly monster hunt? But before Nintendo shareholders get too excited, they should examine the reality. FINANCIAL TIMES

ABOUT THE AUTHOR:

John Gapper is chief business commentator and an associate editor of the Financial Times.