Game Theory

I’m big on games. So much so that people get a bit freaked out about it. I told a friend I’d read a book about Mastermind – the strange logic game from the 70s, with the picture of the Swedish bloke on the box, accompanied by the first example of an Asian Babe as a status symbol. Probably the main reason it was so successful. You use logic to work out the sequence of coloured pegs that your opponent has hidden. With good play you should work it out in four of five tries. I told her the book explained how to do it in one.

It took a while before she called my bluff. Ok, there is no book.

But there is a way you can do it in one. If you’re playing against your seven year old daughter, who is wont to believe that four reds is tricky to guess – you can win by counting the remaining pegs in the box. Too few reds – bingo.

My wife wasn’t too impressed when I told her how I’d won in one. She thought I was cheating. No Asian Babes for me, then.

No doubt I’m biased. But I think games are good for you. Even video games. There's a great book – ‘Everything Bad is Good for You’ by Steven Johnson. He explains how video games give kids stimulus, teach them patience, problem solving.

Charlie Munger is no sleeping partner. He may be the straight man in the Berkeshire Hathaway double act. But he has an incredibly active mind. His view; to invest you need to bat above your ability. It’s no good having the highest IQ in the room. You’ve got to make each point count double.

To do that, he says, you need three things. Fantastic patience, iron discipline, and the willingness and ability to run 100 mental models. Models that you can throw at any business – to understand its dynamics, the sustainability of its profits, what it is worth. In ‘Poor Charlie’s Almanac’, Munger uses his mental models to reverse engineer the idea of world dominance for Coke, and it works.

So I thought I’d apply some mental models to Nintendo – my latest purchase.

First off, on video games. Video games are one of the very few opportunities kids have for being in control – every decision and strategy is their own. And that control, that stimulus, is massively positive. There was an experiment on rats in the 60s – described in Adam Smith’s ‘Powers of the Mind’. One group of rats was pampered & stroked, one group was given electric shocks, and a third group was ignored. After a time the rats in the third group started losing their immune systems and died. But the group that was being pampered – and the group that was being shocked – they were both fine, you couldn’t tell them apart. Kids are a lot like rats in that regard.

And Nintendo has nailed the older market as well. With games like brain training and sight training – the games offer older people the chance for feedback and self-improvement. Something that may otherwise be lacking.

Second; keeping it simple. When Nintendo developed the Wii it knew it would be up against the Playstation 3 and the X-box 360 – both of which are powerfully engineered, with fast and sophisticated graphics. The computer within an X-box 360 is at least as good as an entry level laptop.

But this is where you get the innovator's dilemma. In the book of the same name, Clayton Christenson describes the old floppy disk drive industry. The successful incumbents would ask their clients if they wanted smaller drives. The smaller drives were always slower and held less data. The clients never wanted them. The marketing team told the engineers not to bother. Then a new entrant would come in with a smaller drive, pick up new growth applications, then raise the storage and speed, then take over the clients for the larger drives. The incumbents were always late going smaller, and always ended up losing their business.

So Microsoft and Sony went bigger and better and hit higher price points – because the hardcore gamers said that’s what they wanted. But Nintendo went cheaper and more intuitive – and developed a whole new audience. When we got our Wii my 91 year old grandmother played a needle match of tennis against my seven year old daughter.

Third – hacking. Microsoft and Sony have spent millions making it very difficult to hack into their machines and rip off the games. Seems sensible. Nintendo’s machines you can ‘chip’ or hack quite easily – if you’re that way inclined - to get games for free. Surely Nintendo is worse off? No. Because advertising for products like this is viral. Malcolm Gladwell talks about memes in ‘The Tipping Point’. Individuals who proselytise – who infect others into buying a product. And the tech geeks who hack games are just the right group of people to spread the word. So Nintendo might lose some sales to the geeks, but it gains ten fold in sales to the rest of us.

Fourth – the edge. Once a console – the DS or the Wii – has a numerical advantage, it tends to self-reinforce its own dominance. Software houses are more likely to write for it. There are big economies of scale in advertising. And Nintendo has made sure it is best placed to do this. My daughter loves making the Miis – the self created characters you can use on the screen – for her friends when they come round - you can move them to other machines, and you can bring your controllers over to your friends’ houses so four kids can play tennis at once. The whole collaboration, software availability and advertising buzz make it hard to go for another console.

Now that Nintendo has pulled back, and now it appears to be breaking out, I’ve bought it again for the portfolio.