Getting a Handle on the Numbers - Unit Margins & Variable Economics

In a recent forum post, an indie publisher asked whether they could afford a partnership that would cost them 10% of gross revenue on their Kickstarter campaign.

It is the type of question that - with an understanding of their unit economics - they will be able to answer easily.

Having a strong sense of unit economics gives us a framework for thinking through investments in our projects, and understanding the impact of unexpected costs and price volatility.

Before we get into the nuts and bolts of unit margins - if you’re looking for broader discussion on building a business model around your game, I wrote on the topic here, and here.

What is a Variable Unit Margin?

The variable margin is the per unit revenue, less the per unit variable costs. In layman’s terms this means price less fees, production costs, fulfillment costs, etc. But it does not net out the fixed costs that you invested in the project (illustration, development costs, marketing, etc.).

In practice, things aren’t entirely as clean as this example represents – there are order minimums and economies of scale. But, estimating out a variable unit margin is a powerful tool in predicting your break-evens, and modeling out how adjustments to price, or new costs impact your bottom line.

Estimating Variable Costs

Creators should try to get a handle on costs from very early on in their project. That means, as soon as you start to get a feel for what your component skew will be, start trying to back into some ballpark figures for what your game will cost to make.

For a Kickstarter, variable costs will fall into a couple of categories: contra-revenues (fees), manufacture costs, freight & tariff costs, fulfillment costs.

Estimating contra-revenue is pretty straightforward, it is just whatever platform fees you are being charged. A good ballpark is 5% Kickstarter fees & 4% Stripe fees. So, just multiply the revenue by (9)%.

Manufacture

Manufacture costs are a bit trickier. Once you have a handle on your component skew and dimensions you can RFQ manufacturers (here is a list of manufacturers). In my experience – if you approach manufacturers professionally, and are upfront about your timeline and project, they are happy to help you spec out your game.

While there are definitely economies of scale and stretch goals can change underlying component skews – what we’re after is a ballpark number that you can use to get better insights into your campaign and project. So, pick a reasonable number of games with a reasonable component skew, and know that there is a little give on either end.

Freight

To estimate freight, you’ll need to estimate your game weight, units per pallet, and pallet dimensions. However, for most games, the size of the game is going to be the constraining factor in terms of freight cost per game (this may not be the case for very dense games).

Black Fleet - shipping cubes and sinking ships

The best way to get a bead on games per pallet is just to ask the manufacturers you query how they would palletize the games, as well as the dimensions of the pallets. Alternatively you can ask around on forums how other publishers’ games were palletized. As a point of reference, one way to palletize a Catan sized game (295x238x79mm box), is 4 games per carton, 48 cartons per pallet (192 games), on a 1.30x1.10x1.15m pallet.

To figure out your game weight – I would recommend googling the weights of games with similar component skews and box sizes or get a kitchen scale and get to weighing meeples. Then add some weight per carton to be conservative.

Once you have your weight and pallet dimensions you can plug them into Freightos’ Calculator.

It is worth noting that this is current pricing from one aggregator. Pricing can obviously change, and you may get different pricing from different agents/forwarders.

Fulfillment

Similar to manufacture, you can query fulfillment providers or ask for their rate sheets (here is a list of fulfillment providers). Shipping is often done by zone around the fulfillment center, so you’ll have to make some estimate in terms of backer geographic distribution, or just pick a reasonable rate.

Fulfillment Zones

For US fulfillment, a useful rule of thumb (that may somewhat over-estimate shipping) is to take whatever flat rate shipping option your game fits in and add $2.00 for picking and packing.

Putting it All Together

I spent almost a decade and a half modelling out company operations and making investment decisions based on our insights. Here is a little secret – models exist to help us frame our thinking – not to be perfect predictors of the future.

So, your models don’t need to be perfect. Sure, they should be pretty good. But, it’s better to have a model even if it’s not perfect, and to build in some conservativism relative to your thesis, and some sensitivities and guardrails around it.

In this case, I would take a reasonable estimate for each line item. Adjust it by a few percentage points to account for inflation (if certain line items are to be paid in the future), and then add in a buffer for over-runs or un-known un-knowns (surprises).

Here is a relatively simplistic model of pre-tax-unit-margin for US contiguous 48 fulfillment of Nut Hunt. It has a lot of simplifications, but because of that is useful.

Note that we’re just assuming a unit revenue here as an input. Pricing a campaign is a separate exercise that is driven by your variable costs, and the broader landscape of comparable games.

Why Does it Matter?

Understanding your unit margins, and the drivers of those margins gives us access to some powerful tools.

First you can figure out your break-evens based on your initial investment. That is the volume you need to sell to overcome your fixed costs (development, marketing, etc.) and start making a profit. I won’t go into detail on the process here, as I cover it in decent depth in this post.

A Framework

Second it gives us a framework for understanding whether an investment is worth the cost. For instance, let’s say that a content creator is asking for $500 for preview content. We’ll assume that you already have prototypes made up, and you are weighing whether to squeeze the paid previewer or a free previewer into your calendar (shipping costs are the same).

If our per-unit variable margin is $15, then to break even the paid content needs to bring in 33 new backers either directly or through additional social proof ($500/$15). You can now make a judgement call based on the difference in viewership between the previewers, the quality of the content, and how well your target audience overlaps with their viewership.

You still need to make a lot of assumptions, and when sending money out the door should look for a positive return (as opposed to break-even), but at least now we have a framework.

How Much is 10% Worth?

Back to the original question that inspired this article. We can now see how much a 10% hit to revenue impacts our unit margins and flows through the overall economics of the campaign.

Using our Nut Hunt estimated economics (and assuming the 10% is on the base pledge), it would be a $(3.50) impact to unit margins, or a 25% decrease in base, and 33% hit to conservative case margins.

This substantially increases the risk of the campaign, as narrower margins imply higher risk of macro price fluctuations, and other adverse events.

In general I would prefer to pay for services up-front, rather than take a hit on the unit economics of our campaigns. Obviously, this is analysis depends on price and how measurable the return on the service is (i.e. leads and conversions might make sense to pay on unit basis).

Sensitivities

Maybe the most powerful tool that understanding unit economics unlocks is understanding our risks and sensitivities. By modeling out margins we can visualize the impact of freight volatility, inflation in the cost of fulfillment, and a whole myriad of other factors.

Note that since our model is simple - our sensitivity tables are pretty simple and straightforward. If we were working in a more complicated environment, we might see less linearity.

Where are you struggling in understanding the economics of your project?