Spot On: Square Enix: The Next Generation

In late 2002, the game industry woke up to the news that Japanese RPG powerhouse Square was throwing in the towel. Humbled by losses associated with its 2001 feature-length animated film, Final Fantasy: The Spirits Within, the once-dominant developer and publisher announced its plans to merge with rival Enix. Actually, it was more of a takeover than a merger. The move was the price Square paid for spending an estimated $140 million to produce Spirits. The film opened to lukewarm reviews and proceeded to perform dismally at the box office. The Spirits Within never recovered its costs. It was a certifiable flop, and it cost the company its independence.

Now, one year after the companies joined forces, Square Enix is on the cusp of something big. The newly merged company's president, former Square president Youichi Wada, is making use of a former McKinsey analyst he crossed paths with years ago. That analyst, Ichiro Otobe, an MIT-trained life-long gamer, was hired on to create the Square Enix of the future. For Otobe, the match was a natural fit. At McKinsey, Otobe had focused on the mobile and media entertainment beats. And, as Otobe explained, "Because I really love video games, it was very natural for me to think about this opportunity."

As soon as he was hired, Otobe got to work. He pulled his academic and real-world training together to exploit the Final Fantasy and Dragon Quest brands that had so successfully served Square and Enix before the takeover. But his plan doesn’t rely entirely on those brands--it only used them to weave a new approach, a new outlook, and a thoroughly modern agenda for the company.

Otobe's strategy has two main themes--one that recognizes the limitations of the current-console platforms and one that acknowledges the fascination consumers have with online gameplay. So while Otobe is clear that Square Enix will continue, as he says, "to support the traditional platforms" he knows that future growth will come as much from strategic positioning of the company as it will from its content. "We understand that the game console does not enjoy its advantage over other terminals, such as the PC or other emerging home network devices," Otobe said recently. "We also recognize a huge shift [in] customers' interest toward network-based entertainment--[like] online games and mobile content. We are committed to [reallocating] our resources toward offering such entertainment."

What's behind the shift in consumer tastes? How will Square Enix evolve its business model to reach this new consumer? And what does it mean to the brands that have elevated Square Enix to its current rank as the fifth largest game publisher in the world? These are some of the questions Otobe was hired to answer, and these are some of the challenges he was brought in to meet.

Understanding Otobe’s perspective begins with understanding his take on the Japanese gamer, something he says goes well beyond shrinking sales figures or complaints that Japan's game industry has lost its creativity. “The reason for shrinkage in the Japanese console market is actually a shift of users' interests. Most of the people spend time and money for mobile content, but most of the money is actually going to packet fees, which, in turn, go to network carriers. In the users' mind, they are spending money and time for mobile content. We are thinking this has nothing to do with Japanese economic status, or the "Asian problem," but rather, the shift in users’ preferences.”

The reason for this movement, says Otobe, is very natural. The new online environment pits person against person, and interactivity becomes real when gamers play against each other instead of an AI. From Otobe's perspective, the person-to-person gameplay has killer app potential. “That's a basic reason why we believe in network-based entertainment, because that's [our] human nature.”

Otobe thinks games became popular because they were a novelty. “Over the past 20 years, we've been playing against computers. People were attracted to it because it was something new. But originally, what we called a ‘game,’ was a communication tool that connected people with other people. Think about sports and board games or chess. This is the context of a true game," Otobe says. "Originally, it provided communication with other people.”

This shift back to person-to-person play, according to Otobe, has created “a huge inflection point” for the game industry. It is a time when making important business decisions becomes critical. “When an industry is going along in ‘business as usual’ mode, you don't really have the pressure to make good business decisions…timing is not that critical. But now, management is tested, and management’s capability is tested.”

Otobe is basing the future growth of Square Enix on four pillars. Understanding the new reality of customer ownership; the need to create and cater to communities; a clear focus on the mobile sector; and a new theory of content creation, built around what he calls "polymorphic content."

Customer ownership, says Otobe, is the first key to prepping Square Enix for the game industry of tomorrow. Once the console makers' hold on its vertical market share is broken, the ability to control customer ownership becomes elusive--and the firefight for share starts anew. "My hypothesis is that once the consoles connect to the network, because of the open nature of the network, maintaining the vertical is very difficult."

An open network, according to Otobe, will break the model that sees the customer, the terminal, the network, and the content aligned in a single manufacturer-owned vertical.

"In the new ecosystem, platform technologies will not be controlled by the console provider but by many platform-technology companies. We need to have close relationships with such companies to foresee where the technology is going." Recent agreements with Intel and UIEvolution are Square Enix's first attempts at such alliance-building.

"Microsoft, with Xbox Live, is naturally trying to keep their closed vertical. They are not [in favor of] an open network, right? But I think it's a very difficult model to sustain."

When the console makers lose their hold, "the relevance of terminal and network differences diminishes, and customer ownership shifts to the content provider."

At that stage, success is a reflection of how well the company can cultivate and support the gamer community. But the goal is not to leave the current model behind too soon.

"We have to capitalize on what we have now in the console space. This existing asset [represents] a huge pot of money right now, but we also have to prepare for the next stage."

Interestingly, in Otobe's view, community management is the next important area to focus on. And to Otobe, community equals content. "The management of community and the interaction with community is actually the new content in the networked age, but you know, the community does not happen without anything. Just creating the space to talk--we don't create any community. You need to have something like a Final Fantasy XI that can attract a certain community of people. In a way, our content is more a kind of bait to attract strong community, and the actual content is offered through the communication with these communities [of players]."

When asked if that view suggested more-intense game universes or simpler games, Otobe said, "Well, actually, it doesn't matter." He explained that questions of complexity or simplicity were red herrings in the debate over what content wins in the coming years. "The direction of our focus is more on managing the community and how to navigate the interaction of these people--and how to support the communication between people. We're going to create many different kinds of content to attract many different kinds of [players]."

Otobe said that the current divide that exists between ultradeep and ultrasimple will have to be bridged. "Right now, only two extremes exist--a very deep experience, like Final Fantasy XI, and very simple, casual gaming."

Addressing what's in the works at Square Enix currently, Otobe said, "We have several online games in the pipeline. Each of them is [designed] to capture a different market segment."

Square Enix is also basing its future growth on an increased commitment to the mobile space--but not just for the sake of exploiting a growing market. For Otobe, mobile is a proving ground, of sorts, for future business models. "We think of mobile platforms as a test bed for new businesses in the online space. It is a space where we can easily do many different types of businesses without [diluting] our brand."

Otobe looks at the mobile market as one that, in spite of it existing on the periphery of the core game space, can inform a game company of many opportunities. "In Japan, offering a communication tool [via a handset] was accepted quite naturally. Offering ring tones or wallpaper, which has nothing to do with gameplay, was also accepted quite naturally. The mobile space lets us try out new sorts of businesses--ones that could be extended into the online space via the PC or console."

But probably the most creative idea to come from our conversation with Otobe is his vision of the future. He often uses the moderately grand term "polymorphic content." In essence, it means content that is created with multiple terminals in mind. "This is defined as one [piece of] content that is to be utilized by many different mediums or terminals. Because each terminal has different specifications and uses, we need to design for the different functions of each terminal."

If a content creator knows that the IP will be leveraged across multiple formats, including game platforms (open network or otherwise), DVDs, books, movies, and music formats, the content can be built from the ground up with those formats in mind. "In a traditional model, that transition was very sequential. But games created out of movies are just the movie experience again, with a little bit of interactivity. Most of the time the game is just following the movie plot. In the new model, we come up with a concept with interactivity in mind--one that can create many types of content out of that."

An attempt to capitalize on the polymorphic content model is the upcoming Final Fantasy VII: Advent Children movie, due to retailers this summer. The movie will be released on DVD format, and in a way, it embodies the polymorphic theory. Will Advent Children suffer the same fate as The Spirits Within? "We learned a lot from the movie experience," Otobe said. "This is really a new type of movie content."

Reflecting more on The Spirits Within, Otobe said, "We should have created something that looked more animation-like. Think of artists. They have the ability to create realistic pictures, but they don't. They create artistic expressions. We should have done the same thing, but we didn't. That was a huge mistake."

Ultimately, it comes down to Square Enix not making the same mistake twice and the extent to which Otobe's path is the right one to follow. If it is, Square Enix is sure to thrive and will become, as Otobe says, "the world's number one provider of digital content."