On January 6th, the State Council announced that it was officially lifting a ban that it had said it was going to lift on September 27th. Hence, this is not really new news, but it is exciting that it will indeed happen. On the other hand, the announcement had very little detail, said the regulations are being planned, and was dubbed “temporary.” And, there is the fact that it was lifted only for sales of consoles manufactured in the Shanghai Free Trade Zone. Eventually the ban could be lifted for manufacturing in the other current and future free trade zones, or maybe all of the country, but that is not stated.

We have some analysis that could temper the public excitement about how much new business Microsoft, Nintendo and Sony will generate as a result of this policy change. For at least 8 years Niko has collected data on grey market (illegally imported) sales in mainland China of legitimate console units by the big three makers, as well as sales of “shanzai” (copycat) products by companies such as “Wee”. Each year at least 1.2 million units of consoles were sold illegally. When the Wii came out, there were about 500,000 units sold, when Xbox 360 came out, about 450,000 units and so on. The PS2 (not the PS3) reigned highest among that generation and the previous generation of consoles in China because it could accommodate the broadest library of pirated game titles, and content is king.

In those 8 years and the subsequent 3 years of our tracking, China’s PC online games market exploded and is still booming. Add to that the fact that the mobile platform is in high demand and mobile games are also growing rapidly. This means that there may or may not be demand for consoles in China. The gamers who want consoles can easily buy them in pirate stores in numerous cities. These units are imported via Hong Kong or Guangzhou, or places north, and then put on trucks to various destinations. There is even a city in the north that is known for the re-export to points further west of consoles that have been imported illegally.

The current console gamers in China have a few truths they all adhere to: 1) they all use mod chips, 2) they all download illegal copies of console games, and 3) they have no intention of paying full price for a packaged title – though a few years ago there were some sales of illegally imported full price titles because the quality is much better. Finally, 4) gamers play console games in single-player or local multiplayer mode only because they cannot connect to PlayStation Network or Xbox Live or others in China unless they go through servers in Hong Kong, and that gets very convoluted.

The new legal consoles would open up the world of connected play for these gamers, which is important. The console makers and game developers will certainly need to come up with business models that enable online distribution, online services and payments for a “service” of playing a game rather than paying for a packaged product of the game itself (because those can be easily copied). This is not an easy task. In addition, we have no clue at all what the regulatory requirements will be for the new market. Will foreign games be allowed as we know them now? Will hardware specs change based on government edict? Will there be a requirement to partner with a Chinese company? Will Chinese online game operators currently engaged with PC and mobile games extend their coverage to console games too? The answers to these questions are critical for the success of the market.

Niko Partners has served the parent company of each of the big three console makers for many years. We sincerely hope they all succeed in China’s open market. We are sure that they will need to firmly understand what gamers are missing from their PC and mobile game play that can be better satisfied by console game play, and that will take a lot of work. They will also need to secure partnerships and build business models that make sense in the Chinese market. This task is big but can be done, and we firmly believe that the big three international console makers will dominate over domestic brands of consoles, simply because no true domestic competitor has emerged yet. That said, there will be domestic competitors. I’d look out for Tencent, Lenovo, Xiaomi, HTC and more.

Remember what launched Lenovo (then Legend Computer) into its success: it started as a distributor of computers for a Taiwan PC company. The distribution network was huge, vast, and complex. One day the company built its own computer and severed the contract with the Taiwan company, plugged its own product into its distribution network, and voila – a star was born. Tencent and other companies in China have mastered the art of online distribution to the masses far and near. It would not be surprising if they partnered with or developed their own console company to create a Chinese approach to console gaming that took off with wild popularity.

For now, we are “wait and see” about what will happen. And nothing will happen until the regulations are finalized.