• by Douglas Quenqua , March 1, 2010

The social media economy is booming, turning virtual currency into real coin

Don't let the term "virtual currency" fool you: While the dollars may be fictional -- don't try paying your taxes in FarmVille Cash just yet -- the value they represent is real, and growing at a remarkable rate.

Americans spent just over $1 billion on virtual goods in 2009, a 100 percent increase over 2008, according to research firm Inside Network. That number is expected to reach $1.6 billion in 2010.

Look overseas - particularly to Asian countries - and the American numbers seem puny by comparison. Estimates for 2010 revenue from virtual goods in China, for example, hover around $5 billion.

Most of the attention paid to the virtual market in the United States, so far, has focused on the goods themselves - a cool pair of digital pants for your avatar in Second Life, or a virtual birthday cake for your friend on Facebook. And why not? The fact that people are using real money to buy nonexistent goods says a lot about how much we've come to value our online lives.

Besides, virtual goods are still pretty much the only thing you can buy with virtual currency (just one of the reasons that estimates for the virtual goods market are, for now, indistinguishable from estimates for the virtual currency market). But the market for virtual currency is quickly being expanded beyond digital tchotchkes and game points. Magazine and newspaper companies are exploring virtual currency as a way to charge for content without scaring off readers (or at least not so many of them). Some gaming companies already allow players to make donations to charitable causes using their in-game cash. And advertisers are finding creative ways to get in on the action, legitimate or otherwise.

"We have seen, so far, in the United States very strong growth coming mostly from the transformation of gaming, but I think this is just the beginning," says Atul Bagga, vice president of digital media and online gaming at research firm Think Equity. "The value proposition of virtual items,
or microtransactions, is so compelling that the model can be applied to many other forms of media."

The range of applications for virtual currency runs from the fantastical to the nascent. And plenty of experts in the area disagree over which will come to pass and which are mirages. What no one seems to refute is that virtual currencies are likely to be a big part of the conversation for the foreseeable future.

Exchange Rate
The way virtual currency works is fairly simple, and not unlike most real-world currency exchanges. Just as an American visiting Paris would hand over his dollars for euros, so too does a consumer wanting to tour Second Life hand over his credit card to buy a certain number of Linden dollars (the oldest virtual currency in America). Once the purchase is made, the consumer has an account with the publisher, and can spend those dollars at will without having to take out his credit card or incur any additional fees.

Such economies can end up taking on lives of their own. While Second Life never really achieved the cultural impact the media seemed to think it would, it has remained an icon of the virtual currency market: Its economy grew 65 percent in 2009 to $567 million, according to Linden Labs, the company behind the game. Those numbers - as well as the success of virtual currency in China - have piqued the interest of people outside gaming who are looking for ways to ease consumers' fears of parting with their money online.

Chief among those parties is the publishing industry. As magazines and newspapers look for ways to survive in the digital age, the idea of charging for online content is coming back into vogue. Newsday erected a pay wall in late 2009 - attracting all of 35 paying members in its first few months, the paper sheepishly admitted in January - and The New York Times turbocharged the conversation in December when it announced that it would start requiring readers to pay for content in 2011. (Why take a year to roll out the system? Because it would take that long to come up with one that would work, the paper said.)

But how to start charging for something you've been giving away for more than 15 years? As the Newsday experiment (and such failed programs as Times Select or Salon Premium) suggests, simply asking readers to fork over an annual subscription fee doesn't necessarily work on the Web. Instead, many publishers are now exploring ways that virtual currency systems can make paying for content easier to swallow.

"When I talk to companies in the virtual economy business, everyone tells me they are seeing strong interest from traditional media companies, like television or newspapers or magazines, who are looking into adopting this virtual currency model to monetize their existing content," says Think Equity's Bagga.

Back-end virtual currency providers say they are talking to numerous publishers. Sanjay Sarathy, vice president of marketing for Vindicia, a provider of on-demand payment software, calls online publishing "the most requested area" for potential new business. Ron Williams, CEO of Zeevex, a start-up that sells prepaid virtual currency game cards in retail stores, says his company is in talks with several publishers, as well.

Virtual currencies could help these publications by enabling micropayments. Readers may not be willing to shell out $100 for a full-year subscription, but they might be okay with paying, say, 40 cents a story, if the process were simple and secure enough. The problem is getting readers to pull out a credit card every time they want to read something, or convincing them to let the paper keep their card on file and just charge it over and over again.

Letting readers charge $20 worth of a magazine's virtual currency to their credit cards, which they can then spend in tiny increments each time they want to access a story, could solve a lot of problems.

For one, it eliminates the transaction fees that publishers have to pay each time a purchase is made. But more important, it could help overcome a psychological barrier. People who work with virtual currency say that consumers are likely to spend it more freely than they would real money because it doesn't feel real - and because they've already made the actual purchase when they bought the currency. It's a phenomenon familiar to anyone who's lost track of a budget on a European vacation.

"Do I really want to continually think about paying 80 cents for every article I read?" asks Sarathy. "Especially if I'm a frequent reader? Buying a chunk of virtual currency gets you over that, in a way."

The prospect is particularly exciting to publishers with multiple online properties. A company like Condé Nast could create its own brand of virtual currency - let's call it Conde Cash - that could be used to access all its content, regardless of title. So after a Vogue reader buys $10 worth of Conde Cash to access that magazine, she could also spend it on titles like Elle, Glamour and Self. Such a system could create enticing cross-pollination opportunities for publishers.


Playing the Market
The fact that consumers are more comfortable spending small increments of virtual money, than sizable sums of their own money, is already transforming the way a lot of gaming companies operate. Perhaps the biggest gaming story of 2009 - as well as the biggest virtual currency story - was FarmVille, a game made by San Francisco start-up Zynga, which became the most popular application ever on Facebook with more than 70 million players a month.

FarmVille, along with other Zynga games like Mafia Wars and YoVille, was notable because it was free to play, but allowed users to advance more quickly by buying virtual currency, a model known as "freemium." Although only a small percentage of players opted to spend money on the games, those players spent enough to generate close to $100 million in revenue for Zynga, according to news reports. (The privately owned company declined to release its numbers, but confirmed that it was making significant profits, the majority of which came from the sale of virtual goods.)

Other gaming companies are now finding success with the model. Last June, Turbine, makers of the online version of popular fantasy game Dungeons & Dragons, introduced a freemium version of that game. Subscriptions shot up 40 percent, and people close to the company said players were spending enough on the virtual goods to more than make up for the loss of subscription revenue. World of Warcraft has also begun experimenting with this method.

The downside of the freemium model was it opened the door for some unsavory practices. A minor but heated controversy engulfed the gaming and virtual currency worlds in late 2009 when technology blog TechCrunch discovered some misleading offers for in-game currency being presented to players of Zynga games. Players had the option of buying their currency outright or earning it by completing a sponsored survey, or signing up for an advertiser's free trial offer. Unfortunately, some of the offers turned out to be misleading, and unsuspecting players - some of them children - were being duped into signing up for expensive cell phone plans or other hidden-cost deals, earning the practice the none-too-subtle moniker ScamVille.

Offerpal Media, the company that had facilitated the offers, initially denied the claims, but soon took steps to eradicate the misleading offers. It changed its CEO and instituted guidelines and a review process, as did Zynga, and several other companies, trading in virtual currency.

"What happened was nothing different than what happens on late night TV or stuff you get in your email every day," says Offerpal CEO George Garrick. "There are just marketers out there who push the limits in terms of disclosure and try to trick people about what you're getting into, and a number of these advertisers slipped in."

The incident, which reverberated loudly inside the echo chamber of technology blogs, threw a spotlight on some of the challenges inherent to the virtual currency market. When you're dealing with money - real or imaginary - the opportunities for exploitation increase with the size of the economy. A spokeswoman for the FTC said she was unaware of any action being considered by the commission in regard to virtual currency, and a 2009 FTC study called "Virtual Worlds and Kids: Mapping the Risks" made almost no mention of it at all. But that is likely to change as the amount of money invested in these currencies increases, says Beth Robertson, director of payments research at Javelin, a Pleasanton, Calif.-based research firm.

A sign of battles to come could be glimpsed in January when the Korean Supreme Court declared that in-game currencies must be converted back to real money at the player's request. The decision opens the door to a number of scenarios, not the least of which is criminals using virtual currencies to launder money over international borders.
"All of a sudden there are some significant implications around cash-out capabilities," says Sarathay of Vindicia. Companies dealing with virtual currency now need to ask themselves, Are you a bank? What is your exchange rate?


Sowing Seeds
Luckily, the idea that a virtual currency could have real-world impact came to the nonprofit sector before it did to criminals, as far as we know. A number of gaming companies in 2009 started letting players use in-game cash to make charitable donations. The result was a lot of money that could have been spent on digital tools going to help real people, and the birth of a new application for virtual cash.

In September, Zynga launched a program called Sweet Seeds for Haiti: Players could purchase special edition virtual seeds for $25 FarmVille Cash each (or $5 U.S., and Zynga would give half the money to Haitian charities. Within a few weeks, the promotion had raised $1.2 million, according to Shernaz Daver, head of global communications for Zynga. It wasn't the first time a game company (or Zynga, for that matter) had let players use virtual currency to make real donations, but the size and success of the effort caught the eyes of competitors and nonprofits alike.

"You suddenly have an area where you're doing social good but it's driving up your business as well," says Daver. "Another thing we found was that it made people feel good about the time they were spending on FarmVille," an important antidote to the grief some players got from friends for the amount of time they tended to spend harvesting imaginary pumpkins and milking digital cows.

When an earthquake devastated Haiti in January 2010, Zynga quickly revived the Sweet Seeds for Haiti program, and this time was not alone. Companies like Sony Online Entertainment and MyYearbook also allowed their players to use in-game cash for donations.

The list of industries looking to take advantage of virtual currency goes on: Several dating sites are reportedly considering a freemium model like the gaming companies; e-commerce sites like macys.com and gap.com recently signed on with Offerpal to award existing customers with in-game points for making additional purchases; and the race to create a universal virtual currency - one that would be accepted by every site on the Web - is just beginning, with players as big as Facebook in the hunt. Which of these initiatives will have real-world impact, and which will never progress beyond the virtual, remains to be seen. But there can be little doubt that virtual currency itself has become very, very real.