Jonathan Pan

By Jonathan Pan and John Kim

Our favorite story about Michael Jordan happens in the Portland airport. As Jordan and his teammates were waiting for their luggage, he slapped a hundred dollar bill on the conveyor belt. “I bet you my bags come out first.” Nine teammates jumped on those odds and lost because Jordan had bribed a baggage handler. Jordan “cackled with delight as he collected everyone’s money.” What drove him to win a few hundred bucks that he didn’t need?

“There was a chance at an easy score, and he took it. Yes, the most cutthroat athlete of his generation loves to gamble, and even more than that, he loves to win.” — Bill Simmons

Understanding Jordan’s love for competition is critical to our investment thesis for Esports:

• Humans need to compete
• Esports is a new mechanism to satisfy that need
• Esports games have much shorter lifespans than traditional sports
• Therefore, invest in companies that amplify competition (creating stars, betting/fantasy, and offline rewards) rather than a specific eSport

For those new to esports, take a look at the esports market ecosystem map to understand all the players. Part one of this series aims to dampen the fervor from the often one-sided press coverage of esports. Part two of this series examines the sustainability of the current esports ecosystem.

The Need to Compete

Sigmund Freud, the father of psychoanalysis, believed that competition is a part of being human. We’ve been shaped by Darwinian forces for hundreds of millions of years in pursuit of survival. This manifests itself in the fact that we compete in almost every facet of our lives — academics, work, relationships, and play. Sports have long served as the dominant way to satisfy our need for competition. It has a simple, yet brilliant framework:

1. Offer a fair platform with objectives, rules, and space
2. Let the players compete to determine the winner

Each match offers a new opportunity to satisfy our competitive hunger. That desire is so powerful that the global sports market is projected to reach $70.7 billion in revenues in the U.S. by 2018, according to a research report by PwC.

With that kind of money involved, it’s no wonder that competing at the highest levels in sports is largely limited to those who possess the necessary physical gifts. Most people, like us, have to settle for the role of humble spectator or fantasy player to get our competitive fix.

With esports, anyone with a computing platform can compete at the highest level. And if the $70.7 billion sports market is any indication, entrepreneurs and investors are excited about the potential of esports. Where should they focus their attention on? We believe that the biggest opportunities in the next 5–10 years in esports center around amplifying competition:

• Manufactured Stardom
• Betting
• Offline Rewards

Manufactured Stardom

Jordan was one of the greatest basketball players to have ever played the game. Six-time NBA Champion. Five-time League MVP. Fourteen-time All-Star. Ten-time NBA Scoring Champion. The list goes on. None of this happened overnight. Jordan played varsity in high school. Then, he played for North Carolina and was twice selected to the NCAA All-American First Team. Jordan was rare talent that was molded by decades of coaching, support staff, sponsors, and a sports ecosystem that benefited from his success and vice versa. There is low supply and high demand of exceptional talent in the sports ecosystem.

In esports, it is the opposite. Anyone with a computing platform and enough time can compete at the highest level. That creates a high supply of exceptional talent. There is low demand because teams are incentivized to build their team brand over individual player brands due to the short average career span of esports players and the uncertainty of the survival of specific esports games.

We believe that an esports megastar should be created because he (or she) would significantly advance esports as a whole, much like what Tiger Woods did for golf. How do you manufacture a star and who will do it?

Esports stars need to be content creators (influencers) and athletes. According to Gary Vaynerchuk, influencers need to have talent, put in a ton of work, and then be the fastest in acquiring followers. Esports stars have to do all of that, plus win. This is almost an impossible task because of the time requirements of being a professional player — team practices, individual training, and maintaining a social media presence. There needs to be a support team that maximizes what little time the stars have to create content and market that for them.

The two types of companies most likely to do this are multi-channel networks (MCNs) and talent agencies. MCNs provide distribution technologies, back-office support and ad-exchange services. Talent agencies are in the business of turning people into stars. Our bet is on Creative Artists Agency (CAA).

More Than Just a Barbershop

The two largest talent agencies in the world today are CAA and William Morris Endeavor (WME). These two have sizable sports agencies as well. CAA built its internally while WME acquired IMG, the largest sports agency. Both are now majority owned by private equity firms. Silver Lake owns 51% of WME and TPG Capital owns 53% of CAA.

Why are private equity firms interested in talent agencies? Private equity tycoon Teddy Forstmann famously said this about the talent agency business — “You are in the barbershop business. The only way you grow your revenues is you get another barber to work for you, and he cuts 10 haircuts today.” That may have been true in the past. We believe talent agencies are are critical to the future of sports and digital entertainment. Agencies serve as the broker for information and opportunities. And in a world where there is more talent and more content than ever before, having a broker screen and put together deals/shows makes perfect sense.

Specifically, we envision the creation of a new joint venture — CAA Esports. This JV would be a partnership between CAA, game publishers, and major brands. One of the major issues with esports sponsorships is the lack of a credible advertising agency that can activate esports properties. CAA Marketing won the Grand Prix for “The Scarecrow.” Problem solved.

CAA has also made acquisitions to form CAA Premium Experience, a full-service event management and marketing practice. One of the acquired companies worked on the Pacquiao vs. Mayweather fight as well as the World Cup. This level of experience on high quality events could be a boon for game publishers, who had to create internal events production teams due to the lack of a viable outsourced option. These teams are expensive to maintain and not part of the core competency of game publishers. It’s a win-win for every party involved:

• CAA: Enter the esports agency market in a meaningful way and increase market share (WME/IMG acquired an esports agency in January 2015, signed three teams, but has yet to announce a sponsorship deal)
• Game publishers: Outsource costly events production teams while ensuring high-quality live experiences for fans
• Brands: Activate esports properties with a trusted partner
• Teams: Partner with an agency that not only sells rights but also helps brands with activations
• Stars: Focus on winning and have world-class professionals handle content creation and personal brand marketing

Betting

Jordan’s unyielding, hyper-competitive nature drove him to become the icon of sports. For better or for worse, Jordan took that relentless competitive edge with him everywhere — other sports, business, hobbies, and most infamously, betting.

Jordan’s history with gambling has been well-documented. Once, he racked up a seven-figure debt in a golf duel. On another occasion, Jordan reportedly lost $5 million playing craps — in a single night. Some have labeled him a reckless gambler. We disagree.

Betting was a simply compelling way for one of the fiercest competitors of our generation to satisfy his need to compete. And according to the American Gaming Association, betting satisfies the competitive need for many Americans as well.

An estimated $100 million was wagered legally on Super Bowl XLIX. This pales in comparison to the estimated $3.8 billion worth of illegal bets made on the same game. That is equivalent to every American betting $12 dollars on the Super Bowl alone.

It’s difficult to pin down how much betting is done off-the-books for all sports — think about all the March Madness office pools. The high end of available estimates is $400 billion in wagers annually. The low end is $80 billion. This means that the amount of money being bet on sports eclipses the entire $70.7 billion American sports market itself.

A legal alternative to betting is fantasy sports. The recent investments in traditional daily fantasy sports demonstrate how big this market is. In August, FanDuel closed a $275 million Series E round and DraftKings closed a $300 million Series D round.

In esports, Unikrn is focused on betting while Vulcun and AlphaDraft are focused on fantasy esports leagues. While the stakes are orders of magnitude apart — millions in payout for esports vs. billions in payout for sports — we expect this gap to narrow as esports becomes more mainstream.

The bottom line is that spectating is not enough. Betting and fantasy offer a way to amplify the competitive thrill of esports.

Offline rewards

Almost every esports game has implemented a ranked system where players can compete with others of a similar skill level to achieve higher and higher tiers. At the highest tiers lie opportunities to play professionally, the start of a lucrative streaming career, and general bragging rights. We think that there is a huge opportunity to turn those bragging rights into value for players, brands, and game publishers.

Taking the game League of Legends as an example, there are seven tiers that players compete for: Bronze, Silver, Gold, Platinum, Diamond, Master, and Challenger. Players get in-game rewards for reaching specific tiers. Why not add out-of-game rewards?

Imagine Platinum players who have Starbucks cards can get a 10% discount on coffees. Or, Gold players who have an Apple ID can get 5% off on music through the iTunes store. Or, Silver players who have AMC Stubs cards get 15% off on movies.

• Players benefit because they are getting additional rewards for winning
• Game publishers benefit because there is an added incentive for their players to keep playing their game
• Brands with rewards systems benefit because they are acquiring new customers

This is our request for startup: an Apple Wallet for gamers. This startup will have access to buying behaviors for a large user base which skews 18–34 and male. This company could be a very valuable addition to app constellations such as Google, Facebook, Twitter, or Yahoo. Spreading the use of their single login promotes the use of their other apps.

Psychological needs trumps hype

The future of esports looks impressive — so impressive that reporting has reached hype-like levels. We’ve evaluated and explored opportunities in esports through first principles over the course of this three-part series.

The core of esports isn’t about large audiences or prize pools. The core is competition and our psychological need to satisfy that. We recommend investing in opportunities that amplify competition because:

• Humans need to compete
• Esports is a new mechanism to satisfy that need
• Esports games have much shorter lifespans than traditional sports
• Therefore, invest in companies that amplify competition (creating stars, betting/fantasy, and offline rewards) rather than a specific eSport