Valve Software

Valve Software shoots for the living room with Steam Machines

February 12, 2014: 11:54 AM ET

The independent game developer is looking to move the PC out of the office.

By John Gaudiosi

A Steam Machine

A Steam Machine

FORTUNE -- Independent game developer Valve Software, which has created bestselling franchises like Half-Life, Portal, and Left 4 Dead, used the Consumer Electronics Show (CES) in Las Vegas to debut the first 13 Steam Machines to the world. The new PCs have been designed for the living room, rather than the office or den. And the plan is for these Steam Boxes to entice some gamers to invest in these upgradable devices instead of stagnant consoles like Sony's (SNE) PlayStation 4 or Microsoft's (MSFT) Xbox One.

Valve has added 10 million Steam accounts in the last three months for a total of 75 million PC gamers who use the free service to buy and download digital versions of games. Gabe Newell, co-founder and managing director of Valve, said the company regularly has 6 million people simultaneously on Steam. Valve recently introduced Big Picture mode to Steam, allowing PC gamers to do everything from play games to watch entertainment on an HD TV. By this fall Steam Machines will take things a step further, offering one box to rule them all.

"We heard from customers for a long time that they really wanted to be able to port their experience of using Steam to the living room," said Greg Coomer, producer designer at Valve. "What that really means is they just love the games that are available on Steam, but they don't love the fact they have to usually give up all those games and their friend list when they go to a different room in the house."

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The PC gaming business has been on a roll the past few years, thanks in part to the success of free-to-play games like Riot Games' League of Legends, Wargaming's World of Tanks, and Valve's own Dota 2. According to Peter Warman, founder of research firm Newzoo, PC gaming represents the largest share of the games market on a global scale with 39% of all game revenues, or $27.6 billion generated on PCs vs. 36%, or $25.4 billion via the TV screen (through consoles). But Newell was worried that the future of the open platform with the rise of closed platforms on mobile devices and current and next-gen consoles. So he decided to do something about it.

"We picked three things to look at, starting with the user interface, the operating system, and the platform side of things," said Newell. "We have a lot of experience with Steam, and we could work with something called Big Picture and move all that on top of Linux. We also looked at hardware design for the living room. And we needed a controller design that was consistent with the interaction modes that people were going to be using in the living room."

Valve designed the new controller for Steam Machines and will sell those to the public. Other companies will also be releasing controllers designed for these boxes. Although the game company did make 300 early devices to help partners, Valve currently has no plans to sell Steam Machines directly to consumers.

Each Steam Machine looks different on the outside, but has the same base platform on the inside. Manufacturers offer all types of extra bells and whistles to enhance the experience. And most of these devices are also upgradable, something Sony and Microsoft can't compete with. While not all boxes have been priced yet, there are models from CYBERPOWERPC and iBUYPOWER for $499 and one from Zotac for $599. Falcon Northwest will have models that range from $1,799 to $6,000, so pricing will be spread across a broad spectrum.

"There's a lot of variation low-end to high-end in the devices," said Newell. "One of the strengths that the PC has is that customers can get the experience that they want, while developers can be guaranteed a stable platform to create with."

Bryan Dezayas, director of product marketing at Alienware, believes Steam Machines, like the devices his company will release, will give gamers another option.

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"From a PC perspective it's going to allow gamers to play their entire back catalog of videogames, which is a huge part of PC gaming," said Dezayas. "There's a misnomer that there are console gamers and there are PC gamers. Everybody's playing games on multiple devices anyway. We're just giving them another option."

"We definitely see Steam Machines as a play against consoles, and we feel these PCs are much more powerful than next-gen consoles," said Kevin Wasielewski, CEO of Origin PC. "You have more custom options, more powerful graphics cards."

And while games will be the focal point, Valve is offering a full package of entertainment. Dezayas said Steam OS will have the full capability to connect gamers to their Netflix (NFLX), Hulu, and other entertainment services, bringing everything together on the big-screen TV.

"We think that it absolutely makes sense for Steam to be involved in bringing media to customers in the living room, and we'll have a lot to say about which partners and how that's going to work around E3," said Coomer.

Valve is no ordinary development studio. Back in 2010, analysts concluded that Valve had approximately $700 million in revenues equally split between its games and its Steam shop. This number did not include the 70% going back to developers selling games through Steam. Steam gross revenues were estimated to have surpassed the $1 billion mark at that time.

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"Back then, Valve had less than half of the current number of 75 million Steam subscribers," said Peter Warman, founder of Newzoo. "Valve has since unofficially reported that they experienced a 100% growth in 2011 and 50% growth in 2012. If you add that all up, take a 30% growth in 2013, and keep Valve's game revenues at the same level, Valve's total 'net' revenues without the payout to developers and publishers could be around the $1.75 billion mark."

And that's just Steam, which Warman believes has seen over $10 billion in gross game sales life-to-date, including an estimated $4 billion in 2013 alone. Valve is also a game developer and has seen Dota 2 attract larger audiences than Monday Night Football, according to Newell.

"Considering their profitability, growth potential in games and the Steam store, as well as their serious attack on TV screen gaming with Steam Machines; Valve value for an investor should be significantly above $5 billion," said Warman.

Not that Valve is going public. The company has been very content as an indie studio, developing the games it wants to make and keeping a close direct relationship with its huge gaming audience. That audience is likely to grow larger once Steam Machines start infiltrating the living room, once the gaming domain of only Sony, Microsoft, and Nintendo.

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