The topic for today’s hallway conversation with Shripati Acharya & Gaurav Ranjan is Web3 Gaming: Tokenomics, Marketplaces, Gameplay & NFTs.
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Listen to the podcast to learn about

02:30 - What is Web3 Gaming

09:30 - NFTs, Tokens & Monetisation

15:15 - “There is No Game Without the Gameplay”

23:00 - Future of Web3 Gaming: Crypto & Micro payments

Read the complete transcript below

Gaurav Ranjan 00:50

Welcome to this hallway conversation on Web3 gaming. This is Gaurav Ranjan, part of the investment team at Prime. And I have with me, Shripati Acharya, managing partner at Prime who looks at gaming and Web3 gaming. Shripati, let me start with a very basic question. What is Web2 gaming? How do we define Web2 gaming?

Shripati Acharya 01:10

Web2 gaming is, simply put, games as we used to know them. These are console games, there are PC games, could be mobile games, wherein mostly the players are coming in. These are free-to-play games. You come in, you start playing the game, and then you have a number of avenues with which you can upgrade. You grind and get higher skill levels. You’ll have in-game purchases, you might buy more tokens or what have you, or artifacts like a sword or a skin, like in Fortnite, and then continue playing. These are multiplayer games. These are online games. This is how the games have been for, really, the last 10 years. I think, probably becoming a lot more prevalent after the advent of the iPhone in terms of this kind of structure to the game wherein you come in as a free-to-play, you get more proficient at the game, you buy some in-game tokens and assets, and then you just continue on from there.

Gaurav Ranjan 02:20

Right. So far, I mean, Web2 games have been addressing the core user need for entertainment and fun. We’ve seen that and that’s why most of the users come. Of late, we have seen a lot of uptake in Web3 gaming. People have started building games in the Web3 world. For our listeners, you could just speak a little bit about what Web3 game means. How does it work?

Shripati Acharya 02:40

The whole idea about… Just taking a step back, crypto means that you have tokens or assets sitting on a distributed computing infrastructure. Because each chain essentially is a distributed computer, right?

Bitcoin is a more special purpose computer, but all other Ethereum-based chains are more general purpose computers in which there is compute, there is storage, and all those kinds of things. And when we look at what is it that is stored in these chains, it can be currencies or it can be things, any digital object. And think about what you do in a game. Suppose you are playing a game in which you have a certain character and that character now has got more strength, it’s got more power, it’s got greater attributes, which it has gained over time. Now, this character is sitting inside the game, inside, essentially, the ecosystem of that game, which the game developer entirely controls, right?

Now, what Web3 gaming enables both the developer to do and for the gamers to enjoy, is actually having their own control of the assets which they have in the game. Currently, if the game disappears… Let’s for the moment say that Fortnite shuts down tomorrow, then all the assets which are sitting inside on whatever levels which you have reached in that game, and it could be in a Fortnite or it could be Super Mario or it could be any of those things, they’ll also all shut down and they will disappear. Because all that data and that information is sitting inside a storage which is controlled by the game developer, which is what the Web2 games have. So, the promise of Web3 gaming is that those assets are now sitting in an independent chain, storage and compute, which is a chain. And even if the game disappears, the asset which is essentially a digital token, does not disappear.

If you’re familiar with NFTs, you can think of it like an NFT. It is sitting somewhere and nobody else can take it away from you. Now, of course, if the game disappears, there’s a different question, which is, “Well, where will you use that character which is sitting on this chain?” But at least, technically you are the owner of that. Because then, that particular thing can not be taken away from you. That’s one.

The second more interesting thing is actually around the marketplace, which is that I can tell you, “Gaurav, you want to buy this particular player? You can take it from me.” And that transaction can entirely occur outside the game ecosystem in which you’re operating, in which the asset derives its value from. Which means that the marketplace can be open. Now, technically this marketplace can be operated inside the game itself, and whatever the rules are, can be what can be implemented here.

But when you have a marketplace sitting on a chain, it just lends itself to a higher level of transparency and trust among the users. So, the rules of the marketplace, for instance, which are determined by the smart contracts, governing the transfers are both transparent and visible to everybody, and they technically cannot easily be changed without everybody else knowing about it. Whereas if it is sitting inside a game, it is just a piece of code with changes. And the next day you might find that maybe the transfer fees was $1 for each token. And suddenly it’s now $5 and you cannot do anything about it. Those kind of activities just are harder to do, or are going to be totally transparent if you’re doing it on the chain.

Gaurav Ranjan 06:50

Right. One key takeaway that I had here was on the marketplace side. So earlier, as I said, people do play games more for entertainment and fun. What marketplace enables is, it lets people trade their assets, in-game assets, which was not the case earlier. They can trade it in an open market. So that does add another incentive around making some money or gaining something out of the game beyond the entertainment and fun that you had. Is that the right way to look at it?

Shripati Acharya 07:20

Yeah, it is because what makes Web3 gaming and Web3 in general is that it incorporates economics in a very core way inside it, right? Because there is money involved here. There’s an exchange of value which is going on. And, in this particular case, a game developer… For gamers themselves, Web3 is exciting because they can actually go and trade as we talked about and it’s open and transparent and they own the assets themselves. For the developers, it is exciting because now their economy, which previously consisted of having a small percentage of the free-to-play gamers becoming in-app purchases, like paying users. Now you have in-app purchases plus all this entire transfer, which is going on. And typically what the game can do is say, “Hey look, certain percentage of this transfer, maybe be 5%, maybe 10%, maybe more is actually going back to the game developer.” So, any current and future transfers of that asset can always be revenue generating.

And that can be a significant part of the revenue. Now, there’s a third piece here, which is, and we can talk about Axie here later, but the game itself can have tokens, which are trading openly in a chain. So, for instance, suppose game had in-game tokens. You had some coins or gold or whatever it is, which you would do. So normally, you would go and buy those things, use them inside the game, you would pay fiat currency to go and buy those kind of in-game coins, use those in-game coins to buy things and then move on. But those in-game coins, now think of them if they were actually trading as tokens on an open chain themselves can have their own marketplace. So, there are other elements of the game assets, which can also reside on the chain wherein the market economy can come into play. It’s little harder for me to imagine how the game makes money in those cases. But I mean, that’s another aspect which is there in Web3 gaming.

Gaurav Ranjan 09:30

Got it. A little bit more on the business model or the economics of these games. Earlier in the Web2 version, you could make money by in-app purchases. Or recently we saw a lot of real money gaming coming up where people deposit money and then play games and then win or lose. If you think of Web3 games, one way of monetizing there is by exchanging assets, in-game assets. But what are the other ways of monetization for games, for game publishers and developers? How should one think about it?

Shripati Acharya 10:05

For game developers, they can actually think about… There was actually this notion of play-to-earn. Maybe that’s what you’re referring to here, Gaurav. It started actually, and was pioneered by Axie Infinity. Axie Infinity itself was started back in 2017, ’18, so it’s a reasonably old game. And in 2021, they actually, went ahead and created their own chain where it’s called Ronin. It really made the gas fees really come down. And that really led to the entire transaction volume going through the roof. And this was combined with what happened during COVID. So, there was really a perfect storm in terms of what happened with Axie Infinity. So very quickly, Axie Infinity is a game in which you need to buy a certain number of NFTs in order to enter the game, so you really need to pay to enter. You need to pay-to-play to actually enter the game in the first place.

So in this case, it’s a Pokemon-like game. So you have to buy three characters and then you enter the game, and then you play and then you fight and you win certain battles. And then the characters evolve, they grow and so forth, get more powers, and then you can sell those characters. So that was the earned part in the game. So players would come in, they would pay to actually get into the game. That’s how the game itself is making money. Then they would participate in the gameplay. And then others who wanted to buy these basically NFTs or characters inside the game to go ahead and go to the next level, could directly go ahead and do that.

And so this could happen in an open marketplace. So, this led to a lot of folks actually making very substantial income, particularly from the Philippines during 2020, 2021. And this led to the entire genre of play-to-earn gaming wherein there are players who are playing not just for gameplay or fun and entertainment, as you said in Web2, but really looking at it as a profession and saying, “Okay, can I actually come in, invest certain amount of money, and then increase the value of the assets and really sell those assets to make more money in the process?” That is the whole play-to-earn economy, really.

Gaurav Ranjan 12:30

I’ll come to play-to-earn a little later, but before that just wanted to understand from a user point of view, I’ve been playing, say Web2 games. I deposit money via UPI or credit card in my game, whatever asset that I have to buy. Now, when I think of moving to a Web3 or play-to-earn game, the user needs to buy tokens, he or she needs to have a wallet. That creates a lot of friction, so how should game developers think about making it frictionless for users, so that there’s much more adoption than the people who are more familiar with Web3 and crypto and tokens?

Shripati Acharya 13:00

I think the fact remains that the understanding of wallets and crypto and how chains operate, et cetera, is fairly complicated. And is a fair significant barrier to entry. And if you look today, most of the gamers would actually not be aware of any of these things, because their focus is on gameplay and entertainment and enjoying that process and also the community which comes with it. So, from a game developer standpoint, it makes sense to really look at Web3 as an enabling technology, which makes all of this happen while trying to hide the complexity of it. And my guess is that once users get familiar with the idea, two years later, the situation might be different. But right now, at least, I feel that the penetration of Web3 and the comfort that users have with it is fairly small. So if you go directly with exposing all the Web3 primitives and say, “Okay, why don’t you create a meta mask wallet and log in with it?” you’re going to lose a lot of gamers. And you’ll be attracting yourself to a very small subset who understand the Web3 phenomena.

Gaurav Ranjan 14:15

Right. Coming back to the play-to-earn side, I mean the model in itself seems very interesting. You come and deposit money or buy some characters and start playing upgrade and sell. In case of Axie, we did see that a lot of users came in, that the value of the token went up very high, but for the last six months, things went south. Why did that happen? What are the reasons behind it?

Shripati Acharya 14:40

Yeah. I think that the thesis behind play-to-earn is that there is somebody who’s actually going to buy the asset at a higher price because you’re investing money, and you’re doing that in the hope of buying. Which means that there has to be continuously increasing number of users. So, this investment has got this particular problem that if the focus is entirely on play-to-earn, there’s nobody who’s actually sticking in the game in order to just play. If you look at a Web2 game, the regular gamers who are free-to-play and are staying there without contributing any capital into the game. But the people who are actually buying things, they are not buying things in order to take money out. They’re buying things again, that is the way in which the money is entering the game economy and most of it is taken by the game developer. But in a play-to-earn, the person who’s coming in has got every motivation and every intention of taking money out of this game, which is more than the money which they invested in the game.

So they’re really, if you think about it, a money out kind of a player. And so what happened is that the focus in Axie Infinity, and I think that this is a challenge, which a lot of the early Web3 games have, is that the focus is not on gameplay and the focus and the positioning of the game is that, “Hey, look, this is a place for you to come and make money.” When that happens, the core cohort of users who are there in it for just the gameplay is missing. And I think that that is a big problem because for the game economy to be sustainable, there has to be a stable and substantial majority of gamers who are there in it for the gameplay. And then there can be a supporting cast of players who are there for play-to-earn.

If that is the case, then what will happen is that there are players who are in for the gameplay, let’s call them regular gamers. They will go ahead and buy those assets if they want to enhance or accelerate their progression through the game. And then there will be enough… And the play-to-earn players who are willing to grind and make these assets available and sell, have a motivation to actually produce the supply side of these assets. But there’s a much larger demand on the other side. And these gamers, the regular gamers, are not fleeing the game. They’re there, who are coming on a daily and weekly basis, and continuously playing the game. So that stable cohort of regular gamers was missing in Axie. So, as soon as the new users were joining Axie, started tapering off, it led to a vicious cycle where the price of the assets started coming down, which led to more people now actually trying to sell their assets quickly on the market. So supply side increased. The new players started coming down, because they said, “Wait a minute. It looks like the token prices are coming down.”

So now there is lesser motivation to enter the game, so the demand started falling even more. And so this creates a vicious cycle, which led to a steep fall in that. So now in fact, Axie Infinity has launched something called Axie Origins about a few months back, back in April wherein it’s a free-to-play element of people entering the game without having to buy three NFTs or whatever, and pay hundreds of thousands of dollars to actually enter the game. Because I think everyone’s coming to the realization that the core of gaming needs to be an attractive gameplay and just positioning as play-to-earn is going to be difficult. Of course, it’s very early in this process of this Web2 to Web 3 transition, but remains to be seen.

Gaurav Ranjan 18:15

So the key takeaway here is whether they’re building Web2 or Web3, the gameplay has to be as engaging and entertaining for the users to stick and retain on the platform and then add more value whether it is in terms of in-app purchases or by buying more tokens, selling them in secondary markets and so on. The gameplay has to be very…

Shripati Acharya 18:30

There’s no game without gameplay, right? That’s really the core thing. And which means that attracting the user, entertainment, creating a right balance of how easy it is for the gamers to progress in the game versus how challenging you make it. Then all these little nuances, which are in the game loop, which game developers focus on, are what Web3 developers also have to focus on. It’s no different from that aspect.

Gaurav Ranjan 19:00

And additionally, I think they also need to think about tokenomics, the supply and demand. So, could you talk a little bit about that? How do you balance that tokenomics side of things? I mean, you have developed a beautiful game, but at the same time, you need to make sure that the currency in the game, it doesn’t lead to inflation. So the value doesn’t drop. So how should one think about tokenomics while building games?

Shripati Acharya 19:20

I think it’s a really interesting question. And I think that in general that actually makes running a Web3 game a lot more complex than a Web2 game. And I think a lot of entrepreneurs probably underestimate that because the market dynamics is not something which you, as a game developer, can control. It is open. It is transparent. It is sitting on a chain. Any number of things can happen out there. And just as a stock market, nobody can control because it’s driven by supply and demand. So is the case with these things. So, I think that the game developers should think carefully before they even issue a token, which trades freely on a chain on an exchange, because in most cases I would argue it is actually not necessary. And what value is it it actually providing to the gamers? If that token is not adding to the gameplay, if it’s not making the game loop stronger and more attractive for the regular gamers, then I would argue that it is probably not a good idea to go ahead and issue that token.

Because now as a game developer, you have to manage that economy as well. And then you might have the case of the tail wagging the dog, which is now these tokens are having a life of their own. They’re getting bought and sold, and very soon the value crashes and then it’s trading at some other thing, close to zero. And then new users are not coming in anymore because they look at that and saying that this is a failed game. So you are much better off as a game developer. You might be much better off not issuing the token, which trades in the open DEX. But actually just provide NFTs, which can be traded and everything else continues to remain in-game currency.

I feel that, going forward, what we will see is more of a hybrid. So we will see not only the gameplay, but the level of animation and graphics, which we are used to in Web2. If somebody who has played Valorant or World of Warcraft or Call of Duty or any of those things, these are very, very high end graphics and very engaging and immersive experiences. Those experiences will be there in Web3 because these Web2 games will start incorporating Web3 elements. But I also think that the developers will be very careful about willy-nilly introducing tokens, because as you pointed out, it just creates a whole new dynamic and a whole… You need to have literally economists in the organization who are looking and trying to understand the dynamics of this, presuming it’s a successful game.

And so it’s better off, I would say at a minimum, to do it later once the game itself is successful and you understand how these dynamics might work. But for Web2 games going to Web3, they might just have NFTs just sitting on chains, which are being traded. So now the gamers feel comfortable, the play-to-earn, small section of those users also feel comfortable with actually selling assets and buying assets. There is a secondary revenue industry for the game developer, and that’s about it, right? And at later time, maybe once the dynamics of the gameplay are very well understood, the game developer might make their token available on a chain.

Gaurav Ranjan 22:50

Got it. That’s very interesting. So that brings us to the close of it. I have one final question. And you did cover some of that in your last answer was, how do you see the future of Web3 gaming? How do you see that evolving with time?

Shripati Acharya 23:00

And see, one of the things just happened with Web3, is that crypto enables micropayments to happen. Right. I mean, just as UPI enable micropayments to happen for real money gaming, right? The frictionless payments, that particular takeoff and just small amounts of currency could be exchanged. Now this has actually gone ahead and enabled that. It’s also borderless, right? Somebody anywhere can actually be participating all over the world in this kind of stuff. So I feel that every game will basically become a Web3 game. When I say Web3 game, I use the term a little loosely, meaning that it’ll have elements of Web3, wherein some of their assets will be sitting on an open chain and being open to trade on that front. And different games will probably migrate faster or slower to incorporating the various Web3 elements. That is probably one aspect of it. Some of them would use just NFT, some of them would use NFTs plus tokens and so forth. The second thing would be, I would say, that the best games will hide the complexity of Web3 from the user.

And so the onboarding will look as easy as a Web2 game. You’ll use the same login procedures, processes, which you’re familiar with, and it’ll be there. And as in, when you want to have your own custody of the wallets and your own tokens and so forth, just slightly more advanced Web3 concepts, the games will enable you to do that. So, the more power users can take their assets and keep them within their own custody. Others can actually keep a centralized custody, and others might not just be interested in it. They’re just interested in gameplay. All of these things is happening under the covers. So that’s the other thing.

A third way, I would say, final point, is that we’ll probably get a better understanding of the tokenomics. And we might actually have more nuanced versions of that wherein there’s a greater control over what you can and cannot do, where speculation can be eliminated because ultimately gaming is supposed to be long term franchises. Some of these games are like 10, 15 years old. Can you imagine they’re getting newer and newer versions and 7, 8, 9, 10th version of these games? And they have loyal users who are continuing with it. And that is the idea of a successful game. Not folks who come in, make some money, get out, and create a lot of churn in the wake. So, I think there’ll be a lot more focus on that going forward.

Gaurav Ranjan 25:45

Great. Thanks a lot, Shripati. This was very insightful. So what I understood from the last part was the journey from Web2 to Web3 has to go via Web 2.5. You can’t have a binary transaction from Web2 to Web3. You’ll have to go via the intermediate step where there’ll be some elements of Web2 while you try to build things on the Web3 side, which is on asset ownership on tokenomics, et cetera. And with time, you will finally evolve and become a full fledged Web3 game.

Shripati Acharya 26:10

Absolutely. And not everybody might actually go there because it might or might not make sense to them. But ultimately these games will be immersive, they’ll be entertaining and it’ll be about gameplay.

Gaurav Ranjan 26:20

Great. Thanks a lot.

Shripati Acharya 26:22

Thanks, Gaurav.

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