Welcome to Naavik’s very first monthly Blockchain Games report! This version is a free sample but should provide good context about what you will receive every month upon signing up to our new research portal.

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Each report — including this one — includes two main sections:

1. 0 . Monthly Market Update: This includes data on player activity, top games, top fundraising events, our insights into key industry developments, noteworthy resources, and more.

2. 1 . Project Deconstruction: We analyze a notable project’s game, market, and tokenomics design, dig into the various opportunities and risks, and share our thoughts on where the project is ultimately headed. (Note: today’s deconstruction of Axie Infinity clocks in at 16,000 words(!); most projects aren’t as wild as Axie Infinity so won’t be quite this long.)

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Market Update - October 2021

The blockchain gaming industry experienced dramatic growth in the past quarter. Both unique active wallets (a proxy for users) and transaction volume increased 100%+ and 750%+, respectively, quarter-over-quarter. As a result, gaming has become a trojan horse for broader blockchain adoption. As depicted below, DappRadar notes that games accounted for over half of blockchain wallet activity in the third quarter. This trend continued in October 2021 with gaming eclipsing 1M daily unique active wallets, on average, for the first time. Meanwhile, funding activity for blockchain games remains strong with Sky Mavis’ $152 million Series B round highlighting a busy month. We dive into these trends and their drivers in more detail below.

Unique Active Wallets

• •Per DappRadar, blockchain gaming daily unique active wallets (UAWs) averaged 1.2 million in October 2021 or up 44% compared to September. This is the first month above a million UAWs!

• •At 1 million UAWs, the blockchain gaming market is significantly smaller than the 2.7 billion gamers in the world.

• •As a reminder, UAWs are not a perfect indicator of users. A user can have more than one wallet - potentially overestimating actual user activity. Conversely, a user can play a game but not transact with a blockchain over a period of time - potentially underestimating actual user activity. For example, Sky Mavis reports that Axie Infinity has surpassed 2 million daily active users (DAUs), which is more than the entire blockchain gaming daily UAWs as reported by DappRadar. Furthermore, some blockchain games, like Alien Worlds, have been prone to bots which leads to overestimating actual user activity.

Top Games by Unique Active Wallets

• •The growth in UAW over the past month has mostly been driven by growth in Axie Infinity and Splinterlands wallet activity, which have increased 24% and 57%, respectively.

• •There is also a large disparity in wallet activity between titles. The top title by monthly UAWs, Alien Worlds, has 10x the activity as the number ten title, Jelly Squish.

• •The top titles are dominated by independent developers. Large traditional game publishers have yet to release any major blockchain game titles.

• •We believe that it’s a bit too early to break everything down by genre but hope to do that once more notable games are live.

Unique Active Wallets by Protocol

• •According to DappRadar, WAX is the most popular blockchain for games as measured by UAWs. WAX games averaged over 350,000 daily UAWs in 3Q 2021. Alien Worlds, the top game by UAWs, drove most of this activity; however, remember that Alien Worlds has also faced bot problems.

• •Polygon has seen significant growth in UAWs in recent months. This growth was primarily driven by the release of Arc8 by Gamee, a casual blockchain-based mobile game. Polygon recently formed Polygon Studios and announced a $100 million fund to support blockchain gaming growth, so we would not be surprised to see further growth in UAWs in the future.

• •Ethereum is one of the few blockchains to see a decline in gaming activity. Ethereum’s relatively high and volatile transaction fees have led many games to move to or launch on Layer-2 or other Layer-1 blockchains.

• •It is important to note that DappRadar does not support every blockchain. For example, DappRadar only just began tracking Solana, which has several high-profile games (e.g., Aurory and Star Atlas) in development, and it does not currently track some popular Layer-2 chains like Immutable X or Ronin (but that may change soon). As a result, the below chart is not a perfect representation of wallet activity by protocol, but it’s still notable.

Transaction Volume

• •According to DappRadar, blockchain games’ trading volumes grew 762% quarter-over-quarter in Q3 2021 to $2.32 billion. After a sequential decline in September 2021, October data suggests trading activity has returned to growth.

• •It’s important to note that DappRadar estimates that one project (Axie Infinity) accounted for $2.08 billion or ~90% of total trading volume in Q3 2021.

• •Annualizing the most recent quarter implies that the blockchain gaming NFT market is just under $10 billion. It is worth noting that this figure excludes fungible token transactions (e.g., Axie Infinity’s AXS). For context, the blockchain gaming NFT market size is significantly smaller than the $173 billion gaming and content IP market as measured by revenue.

Top Games by Transaction Volume

• •The growth in transaction volume over the past month has been driven by growth in projects like LOSTPOETS, CyberKongz, and Farmers World. LOSTPOETS is a new project that benefited from its NFT mint. Farmers World has become one of the fastest growing NFT games since launching in August. Meanwhile, CyberKongz volumes have exploded after the project launched its BANANA token (that can be converted to fiat) as a reward to NFT holders.

• •Conversely, Aurory, Zed Run, and Parallel Alpha experienced large month-over-month declines in transaction volumes. Aurory, which has seen strong demand since its NFT mint in August, experienced a decline in volumes this month, as the team continues to work towards launching the game. Parallel Alpha minted its first trading cards in August, so it’s not surprising to see activity slow down in the months following a successful mint. Zed Run transaction activity has been volatile month-to-month but we’ll be tracking the longer-term trend.

• •Like with UAWs, power curves dominate sales volumes too. The top blockchain gaming title by monthly sales volumes, Axie Infinity, has approximately 63 times more activity than the number ten title, NFT Worlds. Similar to the early days of crypto projects, we highly expect this top 10 composition to significantly change over the upcoming months as more projects go live.

• •We note that transaction activity for several titles (e.g., Aurory, CyberKongz) are related to the trading of avatar NFTs. These projects have announced plans to release a game(s) in the future, but transactions are not involving currently functional in-game items.

Fundraising Events

• •There was over $364 million raised by blockchain game companies in October 2021. Sky Mavis’ $152 million Series B was the largest raise during the month by 2x - 3x.

• •October 2021 fundraising activity was down 65%+ from the over $1 billion of financings in September 2021, when Sorare ($680 million) and Dapper Labs ($250 million) raised major financing rounds. Month-to-month lumpiness is to be expected.

• •That said, October 2021 blockchain gaming fundraising activity is over 4x the $72 million raised in all of 2020, according to BlockchainGamer.biz.

• •We expect fundraising activity to remain strong in the near-term, given the amount of new blockchain and gaming-dedicated funds being formed (covered in more detail below).

Top 3 Industry Developments

#1 Steam vs Epic: Different Takes on Distributing Blockchain Games?

This month Valve added a rule to its "What you shouldn’t publish on Steam" list that includes applications built on blockchain technology that issue or allow the exchange of cryptocurrencies or NFTs. This change was pointed out on Twitter by developer Space Pirate, who is working on an NFT based game.

According to Space Pirate, Steam’s decision was driven by its desire to not allow items that can be cashed out for real-world value on its platform. In our view, it’s likely that Valve wants to avoid any potential legal ramifications from an industry with a history of fraudulent activity and regulatory uncertainty. With regard to the latter point, we note that Steam’s CS:GO skins market restricts buyers to wait at least 7 days before they can re-list an item for sale. In this way, the company likely has a stronger argument against any purchases being made for the expectation of profit. Simply put, we think that Valve’s legal department is likely trying to protect the company from a hornet’s nest of issues.

Shortly after news of Steam’s policy change broke, Epic told The Verge that it is "open" to blockchain games in its Epic Games Store "provided they follow the relevant laws, disclose their terms, and are age-rated by an appropriate group." However, in September 2021, Epic Games’ CEO Tim Sweeney expressed similar concerns about NFTs.

While these two statements seem to be contradictory, Sweeney appears to be taking different approaches for Epic as a game developer versus Epic as a game distributor. This is a strong strategic announcement by Epic, which positions the company as forward thinking and open to supporting blockchain games. Much of crypto Twitter expressed this sentiment after the announcement. However, the part about "following relevant laws…" isn’t getting enough attention. How easy will it really be for blockchain game developers to convince Epic that their games comply with securities, anti-money laundering, intellectual property, etc. laws and regulations? Color us skeptical that the Epic Games Store becomes a bastion for blockchain games in the near-term.

Zooming back out for a minute, it’s important to consider the implications of large platforms refusing to distribute blockchain games. Steam is potentially the largest private US marketplace and the largest distributor of PC games. At the same time, the blockchain gaming industry’s trading volume grew 700%+ to $2.3 billion in 3Q 2021, and 50% of blockchain gamers use PCs. This young, emerging market is clearly a business opportunity for distribution platforms; it’s just a question of which platforms want to attack the opportunity and outcompete others who are trying to fill the void.

Currently, blockchain games seem to primarily build awareness via word of mouth and Twitter, develop communities on Discord, and distribute directly to players via their first-party websites. One major positive of this approach is that blockchain games can circumvent centralized app store rakes entirely. Of course, a drawback is not having an obvious destination to access users. Community must be built from the ground up.

The process of actually installing and starting to play these games can be quite cumbersome, however. For example, to play Axie Infinity, players need to follow multiple steps, which include buying ETH on an exchange, creating a crypto wallet, creating a Ronin wallet, depositing the ETH in the Ronin wallet via a Ronin bridge, and then buying at least three Axies on the Axie NFT marketplace. And that’s all before a user’s even installed the game!

Despite fragmented distribution and confusing UX, the blockchain gaming industry is growing rapidly. And perhaps, that’s the strongest validation of the industry’s product-market fit. There are, however, crypto-native start-ups trying to solve the distribution problem. For example, Ultra.io, Vulcan Forged, and OP Games are new platforms aiming to provide distribution for blockchain-based games. Meanwhile, crypto-native game studios like Mythical Games, Immutable X, and Sky Mavis have expressed interest in or have already begun allowing third-party developers to access their technology stack and/or their existing users. It’s potentially a massive opportunity, as long the industry continues on its current trajectory and legacy platforms continue to choose not to participate.

It is difficult to speculate where things go from here. But, if history is any guide, we expect some amount of centralization in market structure. Web 2 has been dominated by platforms aggregating data and content. Even among NFT marketplaces, centralization has begun to take hold. According to DappRadar, the largest marketplace on Ethereum, OpenSea, has facilitated $2.9 billion transactions over the past thirty days compared to only $61 million of volume at the second largest marketplace on Ethereum.

In video games, Steam came to dominate PC game distribution after its parent company Valve released successful titles like Half-Life 2 and required users to sign-up for Steam to play. Steam, as a destination home to a large number of PC gamers, then became a valuable platform for third-party developers to launch their games and acquire new users. In our opinion, crypto-native studios with successful titles and large existing user bases (like Sky Mavis’ Axie Infinity) are well-positioned to repeat Valve’s playbook, especially if incumbent platforms decide to sit on the sidelines. There’s just more competition today than Steam had many years back.

Regardless of how things play out with Steam, Epic, and other emerging distribution platforms, we’re excited to see how blockchain gaming’s distribution evolves over time. Will centralized platform(s) dominate or will grassroots community development continue to be the norm? Perhaps the most incredible thing to keep in mind is that industry growth has exploded in spite of its distribution challenges. Imagine what could happen when key friction points disappear.

#2: The Rise of Token Dedicated Funds and its Potential Implications

When it comes to dealmaking, the games industry is having quite the 2021. According to investment bank Drake Star Partners, the first nine months of 2021 saw $71 billion in 844 announced or closed deals. For VCs that focus on private placements, there was a record $9 billion raised over the period with $1.8 billion of that total invested into blockchain gaming companies. Importantly, this nearly $2 billion figure only includes equity-based investments and excludes any investments into fungible and non-fungible ("NFTs") tokens. And there are several venture firms now raising capital around this strategy.

Indeed, October 2021 was busy for VCs announcing new funds in this emerging space. So far, this fund formation can be divided into three categories:

1. 0 . Funds focused on both equity-based & token-based investments: Galaxy Interactive announced a $325 million fund that will make both equity and token investments in games and related technologies.

2. 1 . Funds focused on fungible & non-fungible token investments: BITKRAFT Ventures announced a $75 million fund focused on making token investments in blockchain games and digital entertainment.

3. 2 . Funds focused on only non-fungible token investments: Meta4 Capital announced a $100 million fund focused on making "rare" NFT investments with backing from well-known VC Andreessen Horowitz.

It is important to note that the above categorization applies to traditional VC funds. Perhaps the first investors to pool assets to purchase gaming NFTs were gaming guilds, like Yield Guild Games ("YGG"). In addition to providing "scholarships" to gamers who can’t acquire the assets necessary to play and earn in games like Axie Infinity, YGG also has invested directly in game tokens themselves. However, these guilds are structured differently than the traditional VC funds discussed in this analysis. With the GP/LP structure of traditional VC funds, the fund’s GP manages fund activity. Conversely, YGG is structured as a decentralized autonomous organization ("DAO") whereby YGG issues tokens that allows its holders to decide on many governance decisions. YGG’s recent token issuance raised $12.5 million and sold-out in 30 seconds. In short, YGG and other decentralized gaming guilds are also major buyers in this space.

For General Partners ("GPs") of traditional VC funds, the decision to launch token-specific funds seems to be primarily driven by 1) dynamics around token investment size and 2) Limited Partners’ ("LPs") concerns about regulatory risks. With regards to the former, token issuances ("mints") are typically smaller and allocated across a wider pool of participants than a traditional venture round. As a result, a token allocation may not consistently meet a VC fund’s minimum check size, making a token strategy at odds with a traditional equity-based fund’s investment mandate.

On regulatory risk, there is still much uncertainty about how governments will treat fungible and non-fungible tokens. In the US, Gary Gensler, the Chairman of the Securities and Exchange Commission, has criticized crypto and suggested that the space needs stronger investor protections. Simply put, the rules are still being written in real-time. LPs who allocate capital to gaming VCs may be comfortable with venture risk but not this novel regulatory risk. BITKRAFT founder Jens Hilgers cites regulatory risk as one driver of their token fund formation in a recent interview with GamesBeat: "investing in tokens as an asset class is something where, after consultation with some of our LPs, we got to know that some of them are actually not comfortable investing in something that’s still — I don’t want to call it the regulatory wild west, but regulation is still in the making."

In addition to new venture fund strategies, the amount of capital flowing into game-based tokens has a few other potential implications:

1. 0 . More blockchain game projects. Projects usually complete an initial token mint prior to actually developing a game. Developers use proceeds from the token issuance to fund their project roadmap, which includes the game’s development. The process is similar to how Kickstarter works. With even more funding flowing into blockchain game tokens via fund formation, developers are likely to have more confidence that they can raise the funds necessary to execute on their game ideas, resulting in more blockchain game projects.

2. 1 . Potential governance issues. Several blockchain games have announced governance tokens that allow holders to directly influence a project’s direction. The idea is to decentralize ownership among a game’s users and community. However, there could be governance issues if institutional investors -- who are primarily motivated by financial returns rather than fun gameplay -- end up centralizing ownership in a project by acquiring a sufficient number of tokens. Much like we see in public equity markets, are we going to see "activist" token funds emerge that re-shape the direction of projects? Will investors always play nice with gamers? VC firm Andreessen Horowitz has written extensively about governance and token delegation best practices. Among their decisions, a16z is transferring their voting rights to others so that these "delegates" can more actively participate in a project’s governance. This is similar to a shareholder proxy. Per its writing, a16z seeks individuals with diverse perspectives, alignment to the project’s success, commitment to the project, full independence from a16z, subject matter expertise, and a history of stewardship. While this approach is to be admired, we can imagine instances where issues arise and/or parties have an opportunity to act in bad faith.

3. 2 . More funds to share with a game’s community. More funds flowing into token economies means that blockchain game studios have more funds to share with their communities. This dynamic can create a strong network effect that differentiates blockchain games from traditional ones. In doing so, certain metrics - such as UA costs and retention metrics - will likely benefit, all else equal. However, the longer-term success of blockchain game economies will still depend on attracting users who are not primarily motivated by financial returns, in our view.

4. 3 . Higher prices especially for rare and popular tokens. This is perhaps the most obvious. More capital chasing tokens will result in higher prices for fungible and non-fungible assets, all else equal. For example, a digital asset fundpurchased the rarest NFT in the Aurory project (a blockchain fantasy RPG) for 2,400 Solana tokens, equivalent to $384,000 at the time.

With the abundance of capital being raised, these are exciting times for the blockchain gaming ecosystem. At Naavik, we expect to see more token dedicated fund announcements in the coming months. And we will be watching closely how potential regulations and new funding strategies influence this fast emerging space.

#3: Concept Art House and the Race for Blockchain Gaming Talent

This month Concept Art House, which was founded in 2007 and creates art for game studios and NFT collectibles, announced a $25 million Series A financing. CEO James Zhang, whose first job was at LucasArts creating starfighters for Star Wars: Republic Commando, was a longtime art creator for video games. Over its decade-plus history, Concept Art House has helped ship more than 1,000 games, working on titles such as Call of Duty: Mobile, Fortnite, Game of Thrones: Conquest, Hearthstone, League of Legends, Magic: The Gathering, Marvel: Contest of Champions, NBA 2K series, Roblox, PlayerUnknown’s Battlegrounds, and more.

Adding to its prior successes, Concept Art House’s business has now been a major beneficiary of the NFT boom. The company supplies NFT projects with the art that gets used to sell collectibles to fans and gamers. For example, Concept Art House partnered with Gala Games to create an NFT "drop" for Frank Miller’s 30th anniversary of Sin City, with an original piece of art titled I Love You, Nancy Callahan selling for over $840,000.

Zhang described how the gaming NFT boom has driven a step-change in demand for the company’s services:

"Ultimately, the thing that paid off and led to this higher valuation was blockchain gaming NFTs. We provide art content across different protocols. The top NFT projects are doing well with three or four-person art teams. And we’ve got this, like, shortage of people who are doing the art that’s needed in this space."

Indeed, the blockchain gaming space has seen an influx in capital and valuations; however, company headcounts remain small. Gaming industry analyst Joost Van Dreunen recently did an excellent analysis of Linkedin data at top blockchain gaming companies. The analysis suggests that, despite billion dollar-plus valuations, most blockchain gaming companies currently have tens to a couple hundred employees. For example, Sorare, a company that was recently valued at $4.3 billion, only had 34 employees. Compare these figures to the 10,000 employees at Activision Blizzard and 11,000 at Electronic Arts.

Clearly, blockchain gaming companies will be competing for new hires as they scale their businesses. They will also likely need to train employees as blockchain technology requires specialized skills (e.g., coding in Solidity, designing games where assets can leave the game environment). Given this reality, it’s interesting - albeit unsurprising - that Concept Art House’s investment round included several blockchain game studios (Animoca Brands, Gala Games, Dapper Labs) and executives (Gabby Dizon of Yield Guild Games, Jiho Zirlin of Axie Infinity). The company will allow blockchain game projects to outsource art conception and creation to a capable third party, assisting with the current talent bottleneck. Furthermore, it wouldn’t be surprising to see acquihires of companies like Concept Art House in the near- to intermediate-term. Meanwhile, other companies, like Forte, are offering end-to-end solutions for blockchain game developers, which includes support with token economy design and monetization.

Concept Art House is a good example of the diverse types of talent necessary to successfully launch a blockchain gaming project. Its successful fundraise also illustrates the demand for best-in-class teams in the midst of a NFT gold rush. While capital is abundant, Concept Art House reminds us that talent is a rare asset.

Other Key Developments

• •Centralized crypto exchanges Coinbase and FTX announced NFT platforms and trading.

• •Axie Infinity’s Sky Mavis raised a $152M Series B at a $3B valuation. Sky Mavis plans to build out a platform to "fuel the play-to-earn revolution".

• •BITKRAFT Ventures launched a $75 million token fund that it will use to put money into blockchain gaming and digital entertainment investments.

• •Dapper Labs acquired Brud to launch a new business unit, Dapper Collectives, with the mission of bringing decentralized organizations to the mainstream.

• •Ethan Levy’s 5 reasons on why he switched his stance and became bullish on blockchain gaming.

• •OP Games will launch Arcadians, their first NFT collection. OP Games also raised $8.6M to build a blockchain gaming platform that will allow for third-party games.

• •NFT sci-fi card game Parallel raised at $500M valuation from Paradigm. The project has a fantasy storyline about humanity’s escape from space following an apocalyptic attempt to resolve a global energy crisis.

• •Facebook is planning to rebrand the company with a new name. Facebook wants its new name to reflect its focus on building the metaverse.

• •VC Fund NFX announced a $450M seed fund with focus at the intersection of gaming and web3.

• •GreenPark Sports raised $31M ahead of its NFT drop. GreenPark is a mobile platform that targets communities of sports and esports fans.

• •Animoca Brands raised $65M at a $2.2B valuation from Ubisoft, Sequoia China, Dragonfly Capital, others. The new capital will be used to fund strategic investments and acquisitions, product development, and licenses for popular intellectual properties.

• •Genopets raised $8.3M to create a "Move-to-Earn" mobile game.

• •Laguna Games announced raising $5M to launch its digital pet game Crypto Unicorns. The developer will seed the marketplace with 10,000 Unicorn Egg nonfungbile tokens (NFTs) starting next month.

• •Treeverse raised a seed round at a $25M valuation. The company will use the funds to build its pixel-themed metaverse.

• •Jackson Dahl’s thread on crypto, gaming communities, and adoption. The role of anyone building the future is to look behind them and offer an outstretched hand.

Content Worth Consuming

Investing in Crypto Gaming with Gabby Dizon & Yield Guild Games (Metacast): Link

• •Naavik recently sat down with Gabby Dizon, co-founder of Yield Guild Games.

• •Yield Guild Games is a play-to-earn gaming guild that invests in NFTs from blockchain virtual worlds and games, like Axie Infinity.

• •In this conversation, Naavik discusses how Yield Guild Games evaluates investment opportunities, its operating and governance model, the growing value of blockchain gaming, and the future of the play-to-earn space.

Ultima Online, NFTs, and Player-Run Economies (Mobile Dev Memo): Link

• •How can NFTs be meaningfully implemented into games to stimulate player-led economies?

• •In this article, Eric Seufert proposes that Ultima Online provides a helpful framework to use in considering the use of NFTs to bolster a truly player-led game economy.

• •Eric uses his own anecdotal history with the game to depict its state in the early years post-launch.

Blockchain Gaming with Piers Kicks (Tomorrow with Rovio): Link

• •Crypto has everyone’s attention, but its opportunities across the gaming industry are substantial.

• •Piers Kicks is an expert in the ever-evolving crypto landscape, with a focus on opportunities across gaming, NFTs, and interactive media.

• •He joins the Tomorrow with Rovio podcast and shares his perspective on the crypto space, thoughts on centralized versus decentralized markets, and the opportunities for players, creators and developers.

Discussing Decentralization’s Core Purpose, Trade-Offs, Declining Marginal Utility and DAO Decision-Making (Delphi Podcast): Link

• •Tom Shaughnessy, Delphi Digital Podcast Host and GP of Delphi Ventures, sits down with Haseeb Querishi, managing partner at Dragonfly Capital, a cross-border crypto venture fund.

• •The two have a philosophical discussion on the topic of decentralization, covering its core purpose, the costly trade-offs, the declining marginal utility of pursuing decentralization, and much more.

• •Several of their insights are applicable to those wanting to build blockchain games.

Animoca Brands Spotlight (Master the Meta): Link

• •Animoca Brands has a variety of NFT projects under development and has also made minority strategic investments in blockchain games and gaming companies, like Star Atlas, Sky Mavis, Dapper Labs.

• •In some ways, Animoca Brands is a more active investor in web3 than many of the largest VC funds.

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Project Deconstruction: Axie Infinity

Executive Summary

• •Sky Mavis’ mission is far more about spurring economic opportunity through play rather than about building an amazing game. That means players engage more as a job (often as "scholars" from developing countries who borrow in-game assets from richer "sponsors" or "managers," who receive a cut of their earnings) than for fun.

• •That said, the progress the team has made with Axie Infinity over the past 3 years is impressive. 2021 was the true breakout year, but much of the technical and developmental foundation was laid prior.

• •The game’s basic design is fairly straightforward and simple, but there are concerns with the sustainability of its economic model.

• •The tokenomic element is still playing out. SLP, the in-game currency earned by winning and used for breeding additional Axies, has faced inflationary concerns, and Sky Mavis continues to tweak how much players earn. AXS, the governance token that represents future ownership of the game, is used for breeding, staking (although not for validating anything), and in the future will be connected to land. Additionally, the supply of Axies seems fine today, but since there aren’t yet ways to "burn" them, we may face an oversupply issue one day unless policies change.

• •The current game could continue to grow for a while, but its current economic policies are fundamentally unsustainable. The value of new Axies and SLP is propped up by new players putting fresh money into the game. If new player growth diminishes, it could send Axie Infinity into a recession.

• •Additionally, Axie Infinity has a recurring revenue problem, which threatens the value of the AXS tokens unless resolved. We project that even if DAUs steadily grow, if the pace of new monthly DAU declines then total monthly revenues may also decline (unless the team enacts broader changes).

• •The Sky Mavis team knows all this, which is why there are several new developments in the pipeline: a F2P version with (potentially) greater distribution, land, user-generated content, and more. Essentially, the goal is to build an Axie Infinity Universe with more ways to earn and spend tokens (and therefore generate more ongoing revenue). We are intrigued but still have specific concerns. Some concerns are easier to solve than others.

• •Sky Mavis’ vision is larger than Axie Infinity. It’s possible that the company turns Mavis Hub into a web3 Steam competitor, and Ronin, its Ethereum-based sidechain (and soon decentralized exchange), may eventually support other third-party games too. Given the massive Series B funding of late, the team definitely has the resources to take on these big opportunities, but the quality of execution is still TBD. Additionally, if they can’t first solve the economic challenges in Axie Infinity, these larger ambitions may be put in jeopardy.

Introduction

By now, most everyone has heard of Axie Infinity, the current flag-bearer of the emerging play-to-earn (P2E) business model. From the whitepaper: "Axie Infinity is a Pokémon-inspired universe where anyone can earn tokens through skilled gameplay and contributions to the ecosystem. Players can battle, collect, raise, and build a land-based kingdom for their pets."

You may have seen a bunch of wild stats but have questions about where everything — Axie Infinity specifically and blockchain games more broadly — is headed. After all, most games don’t create documentary-worthy income-generating opportunities like Axie Infinity does in Southeast Asia.

Most games aren’t supported by burgeoning yield-generating scholarship programs that provide thousands of players access to scarce NFTs. Further, most blockchain games don’t earn revenue at levels that compete with the biggest and best crypto projects. Also, the vast majority of games (of any type) never see day-90 player retention stay nearly identical to day-30 player retention, even among their golden cohorts.

Finally — and despite being an unfair apples-to-oranges comparison — most games don’t capture value in their governance tokens that rival the market caps of some of the world’s biggest gaming companies. As you can see in the chart below, the fully diluted value of Axie Infinity’s AXS tokens rival the largest publishers in size and on a non-diluted basis is about as large as Zynga. Yes, there are caveats, and, yes, we can (and will!) criticize whether it’s reasonable or unreasonable, but Axie Infinity is showing the industry that value can be created and captured at scale in an entirely new way.

How is all this possible? How do the game, economy, and tokenomics fundamentally work? Is there a catch, and, if so, what is it? Is Axie Infinity sustainable, will true decentralization occur, and how must the project evolve if it hopes to continue its long-term growth trajectory? What are the potential pitfalls, and what type of value creation is possible if the pitfalls can be avoided? These are the questions this report attempts to answer. However, before we dive deep into the present and future states of Axie Infinity, let’s take a step back to better understand how we got here.

The Genesis and Rise of Sky Mavis

Axie Infinity is developed by a studio called Sky Mavis, which is headquartered in Ho Chi Minh City, Vietnam, and officially formed in 2018 to bring the game to life. The initial three founders came together after realizing that existing crypto games — notably CryptoKitties at the time — were unsustainable both technologically and economically. However, they believed there was a superior path, and the founding team eventually grew to five:

• •Aleksander Leonard Larsen — the current COO with a background in esports; he’s also a board member of the Blockchain Game Alliance

• •Andy Ho — the current CTO with a background in software development

• •Jeffrey Zirlin — the current growth lead; he also spearheads community development and token design

• •Trung Nguyen — the current CEO with a background as a successful e-commerce entrepreneur in Vietnam

• •Tu Doan — the art director and lead of many game design concepts; he has a background in entrepreneurship and design

Of course, given the project’s meteoric ascent, the team has now grown to 80 employees. What’s notable about Sky Mavis is that even though it clearly aims to develop a great game, that’s not its guiding mission. The team’s mission is to "introduce the magic of blockchain technology to billions of players," while "believing in a future where work and play become one… [and] in empowering players and giving them economic opportunities." This unique lens helps explain Sky Mavis’ roadmap (within and beyond Axie Infinity), which we’ll dig into later. It’s also worth remembering that Axie Infinity isn’t just "a game" but an emerging ecosystem of different modes and Axie-driven experiences.

The team technically began development in 2017, but work started accelerating with the formation of Sky Mavis in 2018. That year, the team completed its first presale of scarce "Origin Axies," launched the initial breeding and idle battle game modes, and released the internal marketplace. The original gameplay essentially had zero imagery, and battle results were calculated through a text-based UI, so the game has come a long way in a rather short period of time. Here is an image of what Axie Infinity looked like in February 2018.

In 2019, after experiencing initial traction, the team decided to raise a couple seed rounds worth a collective $1.5 million in order to accelerate development. Investors like Delphi Digital, Animoca Brands, and Consensys took part in these rounds. Also in 2019, land sales began (an extension of the Axie Universe, which we’ll break apart in a later section), the marketplace shifted over to the Loom Network (a Layer 2 on Ethereum), and the card battle game community alpha released. In general, it was still a year of laying the foundation for future user growth and engagement.

2020 is when things started getting interesting in three key ways:

1. 0 . Sky Mavis released Mavis Hub, the PC launcher that serves as the central hub for new Axie Infinity updates as well as new games in the Axie Infinity universe.

2. 1 . Ronin — "an Ethereum-linked sidechain made specifically for Axie Infinity" — saw its test net go live. It helps transactions run faster and with lower fees compared to when the game ran on the main Ethereum chain.

   • •Specifically, in 2020 land and items successfully migrated over to Ronin.

   • •Between owning Mavis Hub and Ronin, Sky Mavis officially laid ground for important infrastructure that serves Axie Infinity but also Sky Mavis’ broader ambitions.

   • •These additions made the Axie Infinity ecosystem far more robust and ready for scale.

3. 3 . Axie Infinity’s tokens also launched in 2020. Smooth Love Potion (SLP), the in-game currency earned by winning and used for breeding additional Axies, launched in mid-2020, and Axie Infinity Shards (AXS), the governance token where the most value accrues, launched later in the year.

That brings us to 2021 — Axie Infinity’s and Sky Mavis’ true breakout year! The largest inflection point hit right after Axies successfully migrated to Ronin, which made it economically viable and rewarding to buy, sell, and trade the game’s core NFTs. The migration to Ronin ended on April 28th, and you can see a clear exponential rise in the value of both AXS (and SLP) shortly after.

The migration of assets to Ronin reduced friction, but it’s important to note that Axies in particular are the principal way that new players enter the game. Given that players must own three Axies to play at all, making them easier to buy and sell led to a spike in new users (and therefore also the demand for Axies and tokens). This new user growth was (and remains) mostly scholarship driven, and the game has now surpassed 2 million daily active users.

This acceleration of traction paired with the infrastructural foundation laid over the past couple years culminated in some mega-fundraising. Sky Mavis raised a $7.5 million Series A in May 2021, led by Libertus Capital. A $152 million Series B quickly followed in October, led by Andreesen Horowitz with participation from others like Mark Cuban, Accel, Konvoy, and Paradigm. Sky Mavis was valued at $3B; keep in mind that Sky Mavis owns 21% of the fully diluted AXS token supply, which once fully unlocked will be worth over $7 billion based on prices at the time of this writing.

There is more going on in 2021 — the Axie: Origin alpha (free-to-play), AXS staking, the land gameplay alpha (all of which we’ll dig into) — but the Series B clearly exhibits the scope at which Sky Mavis is increasingly thinking. Axie Infinity still has room to improve and attract new users, of course (it’s still not on mobile, doesn’t yet support user-generated content, and no decentralized governance is in effect yet), but attracting other developers and games to Ronin and Mavis Hub (essentially being a more broadly viable layer 2 and web3 Steam competitor) is now a key component to the Sky Mavis story.

Sky Mavis has moved quickly and rapidly unlocked tremendous value for players and token holders around the globe. It’s impressive and its status as a pioneer should be respected, but let’s now take stock of the current state of the game, dig into the details of what’s next, and then we’ll share our outlook.

Analysing Axie Infinity’s Users

As with any game, Axie Infinity’s market performance can be measured by looking at Users and Revenue. Let’s start with Users and try to understand three key things:

1. 0 . How many users currently exist?

2. 1 . Who are these users?

3. 2 . How do these users retain?

As mentioned previously -- and as you saw in the chart from the previous section -- Axie Infinity’s DAUs have skyrocketed ever since the Ronin migration occurred. According to Sky Mavis’ last update on the topic, DAUs are slightly north of 2M. Month-to-month growth looks approximately like this:

This month-over-month DAU growth trend shows that Axie Infinity’s growth spurt is somewhat decelerating, but a deceleration following such an impressive burst of growth is to be expected. Deceleration is also supported by the following Google Trends graph in the Philippines and Venezuela (the game’s top 2 countries), as well as worldwide in general.

To find out where these users are located, we reached out to Sky Mavis COO and co-founder Aleksander Larsen. He told us that about 55% of their players are from the Philippines, and that more generally 65-70% of the overall population is from the entire Southeast Asia region. America is about 10%, and the remaining 20-25% is from Europe and Africa.

This comports with our best external source at the moment - Google Trends results over the past 12 months (Oct 2020-2021). As seen in the image below, the top five regions are generally low daily wage regions, with the exception of Singapore, which neighbors Vietnam, where Sky Mavis is headquartered.

Given the potential to earn real money through playing Axie Infinity, the concentration of users in low daily wage regions makes sense. This primary motivation to play can be partially backed up by a May 2021 Twitter poll that Sky Mavis co-founder Jeffrey Zirlin conducted. When asked what their favorite thing is about Axie Infinity, nearly half of the respondents voted for "The Economy," with a mere 15% putting gameplay first.

We asked Larsen if Sky Mavis had an internal figure for the % of players who are scholars, and he told us the following: "We are tracking these metrics. We’re trying to look at how many people are actively buying from the marketplace versus how many people are holding Axies? … Right now there are about 2,350,000 people who own Axies… somewhere between 60% and 65% are scholars, I would estimate."

Another thing to consider is the game’s current entry cost. The minimum cost to enter the game right now is ~$350, while the average monthly salary (in 2020) in the Philippines was ~$892. In other words, a Filipino would need to fork over ~40% of an average monthly salary at today’s Axie prices to just start playing the game (and this is after a significant price drop in Axies!). Furthermore, the game’s terms of service forbid a single player from using multiple accounts simultaneously. Therefore, the only licit way for a money-rich player to put their virtual livestock of Axies to productive use, besides playing themselves, is to become Sponsors and lend out their Axies to time-rich Scholars. Hence, it’s entirely believable that the majority of players in developing nations are scholars.

Axie Infinity players typically come from low income regions. They are primarily scholars whose foremost motivation is to earn money. It’s easy, therefore, to understand why the D90 retention rate closely mimics the D30 retention rate of 25-30% (as seen in the image below). We’re basically looking at the retention rate of a job, not a game! This isn’t necessarily a bad thing — and it’s consistent with Sky Mavis’ mission — but it means we must look at Axie Infinity through a slightly different lens compared to other games.

It’s possible that as long as Axie Infinity enables its scholar-dominated player base to earn more income than they would doing normal jobs in their home countries, long-term retention and DAU growth will continue to remain healthy. We will revisit this hypothesis when analyzing SLP later in the report.

All in all, Axie Infinity’s growth spurt is decelerating (although still positive), and a majority of its player base treats the game like a daily job to make daily financial ends meet.

Next up, let’s take a look at the game design fundamentals, which will then help us understand how the tokens come into play and better understand the sustainability of Axie Infinity’s revenue generation.

Game Loops and Systems Overview

Axie Infinity’s game design falls under the "Turn-based RPG" subgenre, according toGameRefinery’s taxonomy. That means its core loop is a simple battle-upgrade loop but with an additional "earn" component.

The core battle experience is more engaging than typical free-to-play (F2P) turn-based RPGs, which usually design their core gameplays from an autoplay-first perspective. This is because typical F2P turn-based RPGs usually want their players to end up spending more time with the money-making meta gameplay systems versus worrying too much about decision making in the core gameplay systems.

On the other hand, Axie Infinity mashes familiar turn-based gameplay with a Hearthstone-like card battler mechanic. In a P2E context, this is a smart design decision for three reasons:

1. 0 . It enables a longer-term Player-vs-Player or PvP-based metagame, which results in no two battles ever being the same. That translates into keeping gameplay fresh for longer, while simultaneously taking the edge off of "earning feeling like a grind" and in-turn driving long-term retention.

2. 1 . It creates an esports-fertile product, since the core battle experience allows two players to have a fair battle that is highly dependent on skill versus stats.

3. 2 . It decreases botting risks when playing against real players, since active and reactionary decision making in response to how a battle develops is critical to ensuring a win. In other words, the core battle experience is not so easily "auto-playable." Even though that does not entirely eliminate the risk of botting, it reduces it to a good extent.

All of this is rooted in the fact that having a card battler mechanic live in the core gameplay greatly increases the player skill ceiling, especially when playing against other players. Said simply, the card battler mechanic instantly contributes to making Axie Infinity an "easy to learn but hard to master" type of game.

When players begin the game, most of the battling occurs in the Player-vs-Environment (PvE) Adventure mode, and players focus on completing the Daily Quests. Over time, players slowly graduate towards the metagame, which is made up of the Player-vs-Player (PvP) Arena mode and Breeding. At the heart of all these systems is the Energy mechanic, and what connects all these systems together economically are the game’s two key token currencies, SLP and AXS. Therefore, there are a few key game systems that collectively result in the game’s current loop:

1. 0 . Energy mechanic

2. 1 . Daily Quests, PvE Adventure mode, PvP Arena mode

3. 2 . Breeding

4. 3 . SLP and AXS tokens

#1: The Energy System

Axie Infinity Energy is a key engagement gating mechanism put in place to curb both Axie leveling up and SLP inflation due to economically exploitative player actions, such as excessive grinding and botting. As can be seen in the image below, the maximum amount of Energy a player can hold and its refill rate at any point in time is directly connected to the number of Axies the player owns:

1. 0 . 3-9 Axies → 0.8 Energy / hour (20 Energy / day)

2. 1 . 10-19 Axies → 1.7 Energy / hour (40 Energy / day)

3. 2 . 20+ Axies → 2.5 Energy / hour (60 Energy / day)

#2: Daily Quests:

As with any daily quest system, Axie Infinity’s Daily Quests consist of three tasks, which refresh every day at 12:00 GMT and deliver a value of 25 SLP on completion:

1. 0 . Complete the Daily Check-in (by logging into the game)

2. 1 . Complete 10 PvE Adventure mode levels (can be the same level each time)

3. 2 . Win 5 PvP Arena matches

#3: PvE Adventure Mode

Axie Infinity’s PvE Adventure mode is a simple turn-based card battler gameplay experience with saga-style progression (similar to that seen in games like Candy Crush) and preset PvE battles per level.

This mode consists of 36 levels with increasing difficulty. Players need to enter every level with a team of three Axies, battle the non-player characters (NPCs), and win to earn SLP. Currently, a player can earn a maximum of 50 SLP / day through this mode.

#4: PvP Arena Mode

Axie Infinity’s PvP Arena mode is for more experienced players, where they can battle other Axie Infinity players for more substantial SLP rewards on every win. The gameplay is no different to the PvE Adventure mode, just that the opponent is a real player with three Axies as the competition. Further, mastering one’s deck and playing each card tactically is quite important to guarantee a win in this mode, which greatly reduces the risk of botting and SLP farming.

#5: Breeding

In Axie Infinity, it is possible to breed any two existing Axies to create (mint) a new Axie. Each Axie belongs to one of 9 classes (6 public + 3 secret classes) and has 6 body parts plus a body shape. Each body part possesses 3 genes — a dominant (D), recessive (R1), and minor recessive (R2) gene. Further, each of the 12 recessive genes (6 body parts * 2 recessive genes per body part) has a chance to mutate into a completely random part (not inherited from either parent). And finally, neither are parents allowed to breed with their offsprings nor are offsprings allowed to breed with each other. Long story short, the number of Axie combinations veers toward infinity!

Further, performing a breeding action costs AXS and SLP, the amount of which depends on how many times the Axie has been bred. In order to avoid hyperinflation of Axies, there is a maximum number of times an Axie can breed (7 times) before it is sterile. Axies with a breed count of 0 are also referred to as "virgin" Axies. If interested, you can read more here and here.

Broadly, all the systems and game loops make sense on paper. However, to properly evaluate the efficacy of these systems in a P2E context, they need to be viewed in conjunction with the game’s tokenomics. At the end of the day, the tokenomics define how players gain monetary value from playing Axie Infinity, and the game design systems facilitate that value generation.

To evaluate Axie Infinity’s tokenomics, we need to understand the two tokens that run Axie Infinity’s economy: SLP (Smooth Love Potion) and AXS (Axie Infinity Shards). Below is a broad overview of how token value flows through Axie Infinity’s ecosystem. Let’s analyze each token one by one.

Evaluating SLP’s Sustainability

Smooth Love Potion (SLP) is Axie Infinity’s key in-game digital currency. It is an ERC-20 token that can only be earned (Minted) by playing the Daily Quests, PvE Adventure, and PvP Arena modes in the game, and it is spent (Burned) by Breeding new Axies. Importantly, SLP does not have a hard cap to its total supply. SLP’s circulating supply is in constant flux, and its supply / demand heavily depends on the amount of in-game activity.

Additionally, SLP can also be traded on cryptocurrency exchanges (including on Katana - the new Ronin DEX), which enables wider market access. The external market for SLP emerged when a liquidity pool for ETH-to-SLP conversion was created on the Uniswap DEX. This is a noteworthy caveat because accruing ample SLP to perform in-game breeding actions can be a long grind for many. However, with a SLP secondary market in place, it is now possible to quickly accumulate the token without needing to spend as much time or effort to earn it via natural in-game methods. Said differently, while players can earn SLP by playing Axie Infinity, they can also purchase additional SLP from other players on exchanges to accelerate their in-game progress. That naturally makes balancing the SLP economy for long-term token sustainability even more important.

SLP’s Performance Until Now

At the highest level, SLP supply has seen a major surge since the start of 2021. This is not surprising given the massive influx of new players into Axie Infinity, which naturally resulted in greater generation of SLP in the economy. The real question to ask, though, is whether SLP is healthy as a digital currency? For starters, both SLP’s price continues to generally trend downwards, and the market cap is well off of its highs too.

To understand SLP’s price and market cap trends, we need to look at SLP’s minting and burning metrics. These are captured in the graph below, which surfaces a few key observations: 1) SLP Minted is generally hovering in the 100-200M/day range, 2) SLP Burned is generally hovering in the 50-100M/day range, 3) the SLP Mint / Burn ratio is currently ~2.5 and currently moving upwards.

In short, not only is there more SLP being generated by the system versus being sunk, but this trend is also slowly accelerating. In other words, the supply of SLP in Axie Infinity’s economic system continues to rise, which naturally pushes its market price down. This points to a SLP imbalance in the game, and if Axie Infinity does nothing, it’s only going to get worse.

Looking at SLP’s supply curve (above), here are some observable trends:

1. 0 . Before June 2021, SLP’s supply gradually rose as more players started playing.

2. 1 . Between Jun-Aug 2021, SLP supply mostly flatlined as the rate of SLP burning caught up with the rate of SLP minting.

3. 2 . Between August and September 2021, SLP supply started skyrocketing. Both new and existing players started generating more SLP than usual, which led to a spike in supply and (predictably) a decline in SLP price as a result.

4. 3 . After September 2021, SLP supply basically goes exponential due to a major oversupply problem, which also confirms the previously stated SLP imbalance hypothesis. Notably, the SLP price has not recovered from its peaks of $0.30-0.35 and currently sits at $0.05-0.10.

All in all, the devaluation of SLP’s price due to an oversupply of SLP in the in-game economy is the biggest issue. This is why Sky Mavis has taken some very significant and highly directive steps in the recent past that directly impact the amount of the SLP that can be earned from the game across all types of players - one way to enact monetary policy. For a P2E economy, a devaluation of the key in-game currency means players now need to grind more than ever to generate the same amount of earnings per day as they would’ve when the prices were higher. Said differently, the SLP economy has an inflationary problem that needs to be fixed soon so that long-term player retention is not hampered and in-game income is less compelling to new users. To better understand what is causing the SLP inflation problem, it’s important to understand SLP’s economic design components first.

Analyzing SLP’s Sources

As mentioned before, there are three main sources and one sink of SLP in the game and each of them are tuned slightly differently to mint / burn certain amounts of SLP on a per action per player per day basis. At the root of SLP is "Energy," so let’s understand its role first.

SLP Limiter: Axie Infinity Energy

As a quick refresher, Axie Infinity Energy is a key engagement gating mechanism put in place to curb both Axie leveling up and SLP inflation due to economically exploitative player actions, such as excessive grinding and botting. The way Energy curbs the leveling up of Axies and SLP inflation is connected to why it is required in the game:

1. 0 . In the PvE Adventure mode, Energy is required to gain EXP:

   • •Using Energy to complete PvE Adventure mode levels generates EXP for individual Axies.

   • •More EXP results in Axies leveling up.

   • •Leveled up Axies help with beating higher PvE Adventure mode levels.

     1. •Higher PvE Adventure mode levels generate more SLP per win, but SLP minting through the PvE Adventure mode is capped at 50 SLP per day.

   • •Leveled up Axies also help with moving up the arena brackets and (Match Making Rating) MMRs by winning more.

     1. •Higher MMRs reward more SLP per win, but this SLP minting is capped by Energy, as explained in the next bullet.

2. 1 . In the PvP Arena mode, Energy is required to gain SLP:

   • •Starting a PvP Arena battle requires 1 Energy.

   • •Since the PvP Arena mode has relatively larger SLP payouts per win versus the PvE Adventure mode, the Energy inventory cap helps with limiting the number of PvP Arena battles per day and therefore limiting SLP minting.

   • •For example, players with 3-9 Axies will be able to perform a maximum of 40 battles per day and their SLP earnouts are further limited by their battle win rate and a variable amount of SLP rewards per PvP Arena bracket.

3. 3 . Daily Quest completion doesn’t directly require Energy, but it indirectly does for two of the three quests in the following way:

   • •A player can complete the PvE Adventure mode quest by not using any Energy at all. But another strategy would be to use Energy to complete the quest, so that Axies level up simultaneously. That in turn helps with a high chance of winning PvP Arena battles.

   • •Playing PvP Arena battles directly requires Energy, but winning 5 of them also completes the PvP Arena quest.

Based on all that, it is clear why Energy lives at the core of SLP inflow into Axie Infinity. That also means it is the strongest lever in Sky Mavis’ hand to balance the SLP economy during times of token inflation / deflation. On the other hand, it is also the most risky lever to touch since it directly impacts in-game engagement metrics, or the amount of "fun" one can have with the game. As we will see next, this is likely why Sky Mavis hasn’t touched Energy tuning when trying to curb today’s inflationary nature of SLP, but has rather focused on improving the inflow / outflow tuning of various SLP sources and sinks.

SLP Source #1: Daily Quests

As mentioned, Axie Infinity’s Daily Quests consist of three tasks, which refresh every day at 12:00 GMT:

1. 0 . Complete the Daily Check-in (by logging into the game)

2. 1 . Complete 10 PvE Adventure mode levels (can be the same level each time)

3. 2 . Win 5 PvP Arena matches

While the first task clearly incentivizes daily retention, the other two are geared toward driving engagement with the two main game modes. Completion of all three quests will earn a player a fixed daily 25 SLP reward, which was nerfed from 50 SLP before Season 18 started on August 10th, 2021.

It is also interesting to note that Weekly Quests and Special Events are "Coming Soon," which might prove to be additional sources of SLP and in-turn medium-to-long-term retention drivers. As the influx of new Axie Infinity players settles down, driving engagement of an established audience becomes increasingly important, which justifies the eventual introduction of these two new quest types.

SLP Source #2: PvE Adventures

To quickly recap, Axie Infinity’s PvE Adventure mode is a simple turn-based card battler gameplay experience with saga-style progression (similar to how Candy Crush has multiple levels on a saga map) and preset PvE battles per level. Players need to enter every level with a team of three Axies, battle the NPCs, and win in order to earn SLP. A player can earn a maximum of 50 SLP per day through this mode, though this too was nerfed from 100 SLP per day before Season 18 started on August 10th, 2021.

This mode consists of 36 levels with increasing difficulty. The higher the level, the more EXP rewarded, which helps level up Axies. The higher the Axie level, the more SLP is minted for the player. For example, Axie levels 1-4 generate 1 SLP/win, while Axie levels 21-36 generate 10-20 SLP/win. Further, there are also two Boss Fights at Levels 21 and 36, which give the player 200 and 300 one-time SLP rewards.

Since this mode only consists of 36 levels, it is almost required for the "Complete 10 PvE Adventure mode levels" Daily Quest to allow repetitive completion of the same level to trigger quest completion. In a way, this is not the most optimal design for a saga-style progression mode, which has proven to maximize long-term player retention by delivering continuous saga-map progression. Also, this design is also easily exploitable and thereby dangerous for SLP economy balance:

1. 0 . Fixed level designs are highly susceptible to botting.

2. 1 . Players could optimize their SLP earnings per day by playing lower levels and farming SLP.

3. 2 . Players could also optimize their EXP earned per Energy spent per day to level up Axies, move up the saga-map, farm higher SLP generating levels, and then generate higher EXP for every Energy used, which leaves more Energy to generate SLP within the PvP Arena mode.

Further, when looking at the EXP gained per PvE Adventure level curve (below), it is slightly confusing that the EXP amounts jump so much level to level. There are two ways to look at this:

1. 0 . The pessimistic view: Since there are only a small number of levels and difficulty is increasing with every level, ideally EXP gains should increase just a little bit with every level. This variable curve could devalue certain levels versus others in the players’ eyes, reduce the efficacy of a low number of levels in the whole mode, and more broadly create economy exploitative holes in the mode.

2. 1 . The optimistic view: There might be good reasons for this curve even when there are a small number of levels. For example, level 21 could be significantly harder than level 22, or take longer. Also, uneven curves allow for player optimization, which help players feel more like experts. It is possible that players view this as a series of tiers: they’d want to grind 12, 21, 26, or 30 - the highest one they can get to.

3. 2 . The most dominant view of the two is really defined by player perception, but it’s safe to say that Axie Infinity would like their PvP Arena to be the major long-term retention driver and have PvE Adventure purely enable that, which is why they don’t seem to be investing into creating too much content (levels) for it.

One golden line of game design wisdom is "Players will find the loopholes," and that is exactly what Axie Infinity players did. A quick Google search will pop up myriads of EXP farming guides. Players were able to to generate anywhere between 180-210 SLP in an hour of gameplay across all game modes before the Season 18 update hit, which nerfed SLP earn caps per day by half from the Daily Quests (50 → 25 SLP per day) and PvE Adventure mode (100 → 50 SLP per day).

SLP Source #3: PvP Arena

As a quick reminder, Axie Infinity’s PvP Arena mode is for more experienced players, where they can battle other Axie Infinity players for meaningful SLP rewards on every win. The gameplay is no different to the PvE Adventure mode, just that the opponent is a real player with three Axies as the competition. This mode is also a key aspect of Axie Infinity’s end-game experience, since the player skill ceiling is theoretically uncapped and SLP payouts per win are relatively large versus anywhere else in the game.

The SLP payouts per win are variable depending on which MMR bracket the player belongs to, overall win rates, and Energy capacity / refill rates. For a player in the highest MMR bracket, one win would generate 20 SLP. Therefore, it’s clear that PvP Arena is critical for long-term player retention since that’s where the most SLP can be earned.

This is likely part of why the SLP Earned / Win tuning changed with the launch of Season 18 on August 10th, 2021. As can be seen in the graph below, not only was there an increase of the SLP Earned / Win for lower MMR brackets, but also the total amount of SLP Earned / Win also moved up for higher brackets. In conjunction with the previously mentioned SLP earn caps per day for Daily Quests and the PvE Adventure mode, it strongly suggests that Sky Mavis wanted to heavily incentivize greater engagement with the PvP Arena mode in order to curb mindless SLP farming and botting behavior in the rest of the game. And the reason for that is likely due to an imbalance in the SLP economy pre-Season 18, which we alluded to earlier. Sky Mavis has also confirmed a similar reasoning in their Season 18 newsletter post.

It should also be noted that on October 29th, Sky Mavis released Patch 1.1.1 which stated "Accounts under 800 MMR will no longer receive SLP from the adventure, arena, or the daily quest." Simply said, players with lower than 800 MMR cannot earn any SLP from any portion of the game, which slightly conflicts (in terms of intention) with the SLP Earned / Win change mentioned above.

Considering that all players start at MMR 1200 each season, this move by Sky Mavis confirms significant SLP inflation problems and is a heavy-handed approach to addressing both it and botting problems. Further, Sky Mavis wrapping this under the veil of "our game experience should be designed so that community members are motivated to build gradual mastery over time" basically tells us that they’re getting desperate to fix the SLP economy.

All that said, the above messaging is also important for the value of SLP and AXS, as Sky Mavis must maintain community sentiment to avoid even worse crashes in value. And one shouldn’t forget that it’s also very hard to make changes to a blockchain game when players have made significant financial decisions based on the development team’s previous design decisions.

Maybe Sky Mavis decides to revert this change in the future and are just buying themselves some time with it for now. Another way to have approached it would’ve been to connect PvE Adventure mode SLP earnouts to the limited Energy system, change nothing with Daily Quests, and figure out how to optimise PvP matchmaking to better combat botting. This is a problem many games companies have faced and figured out in the past.

SLP Inflation Reason #1: Scholars

Putting all the above together brings us back to an earlier hypothesis: "… as long as Axie Infinity enables its scholar-dominated player base to earn more income than they would doing normal jobs in their home countries, long-term retention and DAU growth will continue to remain healthy."

This conclusion is important because we already know that many scholars cash out their SLP as a daily wage, which also means they don’t sink any of their earned SLP into Breeding. This is the first driver of the SLP inflation problem.

Further, if today’s design of SLP’s sources is leading to an inflationary economy, it brings into question how sustainable Axie Infinity’s economy really is for its scholar population.

To evaluate this, we performed a simple daily SLP-USD earning potential analysis for four different MMR levels of all Filipino players and scholars - 700 MMR, 1100 MMR, 1500 MMR and 2200 MMR. Some further assumptions we’ve made:

1. 0 . This model assumes that:

   • •Players have already crossed the point of using their Energy to farm EXP and move up the MMRs from a SLP farming optimization perspective.

   • •Players max out the daily SLP earning cap from Daily Quests and PvE Adventure mode.

   • •Players do not sink any SLP they earn during the day.

   • •Players see a PvP Arena win rate of 50% and have 20 or 60 available energy each day - the latter requires owning 20 Axies.

   • •Daily SLP Earning Potential = SLP earnings from PvP Arena + PvE Adventure + Daily Quests.

2. 5 . The PHP-to-USD conversion rate was assumed at $0.02.

3. 6 . The total number of working days was sourced from the latest wage order given by the Department of Labor and Employment of Philippines, and assumed at 258 days.

4. 7 . The average daily wage in the Philippines was assumed at $41.49, which was sourced from Statista, multiplied by 12 and then divided by 258 working days.

5. 8 . The minimum daily wage in the Philippines was assumed at $7.03, which was sourced from the official website of the Department of Labor and Employment of Philippines, averaged out across all minimum wage regions and classes, and divided by 258 working days.

6. 9 . The sponsor fee was assumed at 30%, and sourced from CoinGecko’s 25-50% range.

As can be seen above, all players across MMRs and with 60 Energy available were able to earn more SLP than the daily minimum wage for the most of 2021, and this continues to be the case. May-August was a very high earning period with daily SLP earning potential even crossing the average daily wage. But the story is quite different for players with 20 Energy available, even though the surges in May and July made it briefly possible for them to earn even more than the average daily wage. The lowest MMRs are making less than the daily minimum wage and the rest are slowly trending towards it. Though the spike on October 29th should be noted, which is when Sky Mavis decided to remove all in-game SLP earnings for MMRs below 800.

That said, we also know that a vast majority of Filipino players are scholars, which means they only see 70% of the total earning potential after the sponsor fee is removed. That results in the following graph:

Factoring that in and for scholars with 60 Energy available, the takeaways are broadly the same but more pronounced. It should also be noted that scholars owning 20 Axies is an unlikely scenario, but we wanted to theoretically explore it. And for scholars with 20 Energy available, the higher MMRs are much closer to the minimum daily wage line. It is only the very high 2200 MMR players that are above the minimum daily wage line relatively safely and consistently. All in all, scholars are very close to realizing that playing Axie isn’t so different from a minimum wage job after all.

SLP Inflation Reason #2: Breeding

As of now, Breeding plays a dual purpose in the game. Not only is it the only way to burn both AXS and SLP, but it is also one key reason (apart from cashing out) for players wanting to maximize their SLP generation through in-game actions. After all, Breeding is the system players use to create more powerful Axies that can be used to move up the PvP Arena brackets faster and earn higher SLP rewards and AXS (the importance of which we will discuss in the AXS section).

As of October 31st, 2021 — and as seen in the chart above — there’s a total supply of ~8.4M Axies in circulation. Of those, breed count 0 Axies are naturally the highest in population since they are born out of Axie breeding. It is also interesting to see that players are generally okay with using the same Axie 3-4 times to breed, after which they are considered less desirable and generally tried to be sold.

It is worth keeping in mind that controlling the number of Axies in the game’s universe is important for two reasons. First, if the population of Axies increases over time, then the need to breed new Axies drops gradually. This is because the need of new players requiring Axies to enter the games can be serviced with the already existing Axie population.

Second, controlling the number of Axies is important to keeping the Axie marketplace healthy. New players can play the game only when there are 3x more Axies available than players. However, if there are too many Axies available, it results in low Axie floor prices, which negatively affects Sky Mavis’ revenues since the company’s marketplace transaction take rate is a flat 4.25%. If there are too few Axies, it will result in high floor prices. This will lock out new players from joining the game, which diminishes the game’s overall growth and in turn marketplace revenue for Sky Mavis. It’s also worth mentioning that the majority of the value accruing in the Community Treasury (covered later in the report) comes from breeding fees. Therefore, if breeding declines for any reason, it would negatively impact the value of the Community Treasury, of which Sky Mavis owns a large stake.

As can be seen in the graph above, the USD floor price for Axies has dropped more than 75% over the past three months. That price drop occurred in conjunction with two points illustrated in the graphs below:

1. 0 . The Axie floor price drop occurred on account of a falling daily count of new Axies, which is driven by a lowered amount of breeding actions. That also means lowered sinking of SLP.

2. 1 . While the daily count of Axies is dropping, the daily Axie transfers continue to rise. This means the current player base is increasingly moving around a stabilizing pool of Axies, and in turn not sinking their SLP in a healthy fashion.

These two points confirm that an overpopulation of Axies is also driving the SLP inflation problem. As can be seen in the image below, the number of Axies per holder essentially hit 3 (the minimum number of Axies to actually play the game) for a short period in September, after which there was a massive spike that brought the metric back to a more stable ~3.5. According to Sky Mavis, an upward spike in this graph is a sign of too many Axies relative to demand. Notably, it was Sky Mavis that caused the massive spike due to a game-wide ban on 30k Axies overnight. These Axies were involved with player accounts that were abusing the game’s Energy system, which of course means more SLP flowing into the system. Read more here, if interested.

As the table below showcases, the SLP costs for breeding were eventually increased by an average 66% on September 23rd, 2021. This was accompanied with the AXS cost per breed action dropping from 2 to 1. However, it is worth noting that the daily Axie total did not significantly drop after the breeding SLP price increase. This makes sense because the problem to fix is creating a need to breed more often; a price increase further disincentives it.

Based on current trends, the Axie population will likely continue to grow at a relatively similar, albeit slightly slower, rate. Additionally, floor prices might actually continue to drop even lower than where they are today, though eventually flatline. Probably the biggest solution to explore is finding ways to sink Axies themselves. Until that happens, the population of Axies can only go up, which causes the need for breeding (and all the revenue associated with it) to drop.

All in all, the existential SLP inflation problem in Axie Infinity is driven by two major reasons:

1. 0 . A primarily Scholar population cashing out their SLP for daily earnings, which only causes SLP to change hands versus actually burning SLP.

2. 1 . A gradual rise in Axie population over time resulting in fewer Axies being bred to service the needs of new players entering the ecosystem (which results in fewer SLP being burned).

Both of the above points pose a bunch of issues for Sky Mavis to tackle going forward. These include:

1. 0 . Evolving the economy design to better control the naturally inflationary nature of SLP

2. 1 . Regularly iterating on the economy balancing to help stabilize the price of SLP, in order to incentivize long-term retention for income seeking players

3. 2 . Figuring out a solution for sinking Axies entirely, which reflexively stimulates the SLP economy

Before we dive into how Sky Mavis is thinking about addressing some of these problems, it’s important to understand the tokenomics behind why the team is continually improving the Axie Infinity universe. That brings us to Axie Infinity’s second token - AXS.

Evaluating AXS’ Role in Axie Nation

AXS is Axie Infinity’s digital governance token that represents future ownership of the game. It’s an ERC-20 token that is available in fixed supply (270M in total), and it has two main goals. First, it’s a reward for interacting with Axie Infinity in certain ways, while simultaneously incentivizing players to hold on to their tokens for more upside (staking for yield). Second, it allows Sky Mavis to progressively decentralize the ownership and governance of Axie Infinity to its players, advisors, and investors. As we write, AXS’s current market cap is $9B with a fully diluted market cap of $39B!

AXS’s fixed supply will be introduced into the Axie Infinity universe according to the allocation and unlock schedule below. Until October 2021, there were 60-62M AXS tokens in circulating supply, which represents 22-23% of the total supply. The rest of the tokens will gradually unlock by 2026. In terms of the allocation:

1. 0 . Staking Rewards (29%): Staking AXS allows Sky Mavis to reward community members for having a long-term buy-and-hold mindset. Players who stake AXS will be able to earn additional AXS rewards. In the future, players who staked AXS will have voting rights and a say over the use of the Community Treasury, which currently holds over $2.5B in token value. However, to be clear: staking currently serves no purpose other than to incentivize holding.

2. 1 . Sky Mavis (21%): This allocation rewards the core team, ensures incentives stay aligned, and can be tapped into to fund future development.

3. 2 . Play to Earn (20%): These are essentially AXS tokens that players can earn by engaging with the game. Naturally, the more engaged a player is, the higher his chance of earning more AXS.

4. 3 . Public Sale (11%): This occurred on October 10th 2020 through the Binance Launchpad platform. Read the press release here.

5. 4 . Ecosystem Fund (8%): These tokens are meant to be used to support the Axie Infinity community. This could come in the form of airdrops — which occurred in late September — or in rewards for community members doing work that grows and better engages the community.

6. 5 . Advisors (7%): These are tokens given to strategic advisors, again to help align incentives when building out the future of Axie Infinity.

7. 6 . Private Sale (4%): Axie Infinity raised $864,000 in a private sale of AXS tokens to strategic investors in the middle of 2020. These investors purchased AXS at a 20% discount. Further, 20% of the private sale tokens were unlocked during the AXS public sale, and the rest of the private sale tokens will be unlocked quarterly until the end of 2022.

Currently, the only way to earn AXS from the game itself is by competing in the PvP Arena mode and ranking in the Top 1000 of a month-long season. That means a player could earn anywhere between 2-225k mAXS (1,000 mAXS = 1 AXS) tokens by competing in the PvP Arena. Other than that, AXS can also be purchased on cryptocurrency exchanges.

The way AXS flows through the Axie Infinity universe and accrues value as a token is well captured by the image below.

That translates into the following simple terms:

1. 0 . Players play the game and either earn (through the PvP Arena) or spend (on breeding) AXS while doing so.

2. 1 . All AXS earners are now AXS holders, which spurs the need for actual token utility. This is currently planned in a few ways:

   • •Governance: This is the first and primary utility of AXS, where AXS Holders are essentially shareholders of Axie Infinity and can therefore govern the future trajectory of the project. A key part of how they govern will be related to having a say in how the Community Treasury funds are (eventually) used.

   • •Staking: Players can stake AXS to reap weekly rewards and participate in governance voting. Staking incentivizes users to hold the tokens and support the growth of the Axie Infinity ecosystem. Strangely, staking doesn’t actually perform any function for the game.

   • •Payments: Axie Infinity’s NFT marketplace also accepts AXS as a payment currency. In other words, playing Axie Infinity partially requires AXS, similar to how paying in the USA requires Dollars.

   • •Liquidity Pool: More recently, Ronin launched its decentralized exchange, Katana. In order to create marketplace liquidity, it incentivizes users to deposit AXS (paired with other tokens) in order to earn RON tokens as a reward (so many tokens!).

   • •There’s perhaps more utility to come as land and user-generated content launch (more on this in the next section).

3. 5 . All the AXS spent + 4.25% of all Axie Infinity NFT marketplace transaction volume goes into the Community Treasury, which is collectively controlled by the AXS holders.

4. 6 . These AXS holders can then vote on how the treasury funds are used to build the future of the game (Governance) and/or receive a portion of the fees that were accrued in the treasury through Staking their tokens.

5. 7 . Therefore, the more players there are that buy and sell Axies, Land, and Land Items (discussed later), the higher the revenue, and in turn the more value is accrued to the token and the treasury.

Since AXS is ultimately the governance token of the game, its effectiveness can be measured by looking at how many AXS holders there are, where the Community Treasury is accruing value from, and how the Community Treasury is evolving in value.

As of October 31st 2021, there seem to be a little over 37k total AXS holders, and there are ~19M AXS in the Community Treasury. That translates into the previously mentioned ~$2.5B in value accrued in the treasury at today’s price of AXS. As expected, a vast majority of Community Treasury value generated from within the game comes from Breeding Fees (1 AXS/breeding action).

Broadly, AXS value accrual seems to be on a great trajectory. However, given the fact that ~90% of this comes from breeding fees, Sky Mavis fixing the previously mentioned concerns around Axie overpopulation and SLP inflation becomes all the more important.

All that said, it’s valuable to peel a layer further to truly understand what is driving AXS’ value. This can be seen in our model below, and there are a few important observations to take note of here:

1. 0 . Avg. New DAU per Day (Row 2) is clearly decelerating.

2. 1 . Marketplace Volume / DAU (Row 5) is also slowing down due to a general decline in average marketplace prices for Axies. In other words, Axie prices are dropping due to an overpopulation of Axies as well as a decreasing need to breed more Axies. This latter point is reinforced by a falling number of new Axies produced each month (Row 13).

3. 2 . Both the above points result in a double whammy:

   • •The monthly marketplace volumes have receded, which means the marketplace revenue that ends up in the Treasury also declined (Row 10).

   • •Less frequent breeding leads to lower breeding revenue, which again decreases how much ends up in the Treasury (Row 17)

4. 2 . Despite total monthly revenue (Row 18) being the same as it was three months ago, the fully diluted market cap of AXS (Row 25) has dramatically risen. The price-to-sales ratio (which we know is imperfect) rose from 0.64 in July to 8.32 in October. Sentiment grew faster than the fundamentals.

What’s Next for Axie Infinity

Given the game’s SLP inflation problem and associated key drivers, Axie Infinity’s current business model is unsustainable, and Sky Mavis knows this:

"In the beginning, the Axie economy will be dependent on growth and new entrants. New players require Axies to get started; Axies price and breeding profitability will be determined by the demand from these prospective Axie players. This is much like any startup, growth is necessary in the early days. However, as the size and strength of the Axie network grows there will increasingly be new sources of external capital into the ecosystem."

Sky Mavis has several specific plans laid out in its roadmap, but these particulars aside, there are a couple high level objectives that they must achieve. First, more money must flow into the economy than flow out. Second, that economy must produce things that people are willing to pay for that fulfill their desires directly rather than be mere vehicles for speculation.

The most obvious way to accomplish that is to build a platform that others build upon, and if Sky Mavis is particularly ambitious they will try to make themselves and their technologies the go-to distribution and discovery nexus for all future blockchain games. This is roughly the strategy theylaid out at EthCC[4]:

Another approach would be to spin off a conventional, non-play-to-earn game mode. And sure enough they have plans for this too with the upcoming release of "Axie: Origin," a truly free-to-play game originally meant for release on Google Play, the Apple App Store, and Steam:

Sky Mavis also lists several other long-term plans for making the play-to-earn version of Axie Infinity more sustainable:

• •Adding additional utility to Axies via "land," "items," and mini-games

• •Encouraging "community" events such as esports, tournaments, and general engagement with the game universe

• •Adding a new upgrade system for Axies ("vertical progression")

• •Creating an Axie sink by requiring some Axies to be "released" to gain certain resources

• •Adding non-transferrable "Soulbound" Axies that are competitive in the arena but have no market value or earning potential

All of these could very well help give the game more appeal beyond just grinding for SLP to immediately cash out. Sky Mavis further gestures at the "joy of owning a pet," "fun, rest, and relaxation," and "making friends and finding business partners/mentors." Here Sky Mavis is working off of something like Richard Bartle’s taxonomy of player types, trying to make the game appeal to more than one kind of person — not just those who like to compete and achieve, but also those who like to explore and socialize.

What else are they planning? Another idea is to turn Axie Infinity into a platform for advertising:

"Advertising fees and sponsorships. Many projects are already eager to distribute rewards and tokens to the Axie economy. So far MakerDAO, AAVE, and Kyber Network have done experimental token drops to Axie players. Axie is already the largest community of people who understand how to use Blockchain technology in the world; there is immense value in advertising to a community like this."

As much of an opportunity as this may be for Sky Mavis and advertisers, it’s unclear what the value proposition for players will be given it already costs so much money to play. Players have been conditioned that paying for a game typically removes advertising. Most importantly, if the majority of their players are scholars from low-income countries that would hardly be the key demographic advertisers care to target. Under these circumstances, the most likely customers for Axie’s ad ambitions would simply be other less popular crypto games, and perhaps these ads would be best placed in the upcoming F2P version. We’ll have to wait and see.

Finally, Sky Mavis completes their list of ambitions by reaching for the moon:

Nonprofit organizations will be a major source of Axie demand and to pour capital from donors into Lunacia with no expectation of return; only the will to do good.

Government donations and grants. Axie is well poised to become a laboratory for Universal basic income experiments.

What Axie Infinity actually needs to do to be sustainable long-term is to offer experiences that people value intrinsically rather than as a means to simply earning money. If you think of the game world as a carnival, a successful carnival needs a steady supply of attendees who are happy to pay to ride the Ferris wheel, drive the bumper cars, and eat popcorn, with no expectation of leaving with more money than they started with. A carnival that is populated by carnival attendants who extract more value than they put in is not sustainable.

Of course, Amazon.com burned money for six years before finally showing a profit, and Tesla went without profit for seven. As long as investors are willing to keep shoveling money at the project in the hope of a sustainable landing, Axie can continue building. The main issue is that if the growth in daily active users levels off and stagnates, these piles of new money will have to come from deep-pocketed investors. In the absence of sustained growth, players’ daily earnings will make the player base itself a net liability.

Let’s spend more time breaking down the key ways Sky Mavis is attempting to spur more growth and generate long-term sustainability.

Axie: Origin

The upcoming F2P game set in the Axie Infinity universe is called Axie: Origin, and Sky Mavis has been working on it for over 12 months. The stated goal of Axie: Origin is to introduce people gently to the concept of the game and convert some number of them into P2E players of Axie Infinity. As the team put it in the September update: "This will make it even easier for our friends and family members that have never used crypto to fall in love with Axie!"

The F2P game is sometimes described by the team as "Battles V2," but details remain scarce about what the actual gameplay will be like and how it’ll differ from the core game.

There are two major concerns with the F2P game mode:

1. 0 . Potentially being shut out of major distribution channels

2. 1 . Using the F2P mode to double down on finding more sources of fresh users for the P2E game, rather than building a sustainable revenue base in the F2P game

Distribution Doubts

COO Larsen said back in July that their plans were to release the F2P game on the App Store, Google Play store, and Steam. As we mentioned already, Steam has since gone on record as banning all crypto games from Steam. Now, Axie: Origin is not meant to be a crypto game, but it’s clearly meant to introduce people to the Axie universe and drive engagement with the crypto version of the game. They even used a Trojan Horse meme in the slide that came directly before the one about their plans to release the F2P game on traditional game stores:

We asked our contacts at Steam about whether Axie: Origin was approved for release or not, but we have not heard back as of this writing.

As for Apple and Google, who can say. As recent events have shown, they guard their 30% cut of app store fees jealously, and they may not be eager to greet these Geeks bearing Gifts. If Axie: Origin is properly standalone, then there should be little reason it gets denied; however, if they try to overtly connect it to crypto or download the complete game elsewhere, that may spur issues.

Now, does Axie even need traditional app stores? Sky Mavis boasted in an October post celebrating their Series B, "We’ve grown from 38,000 daily active players in April of this year to over 2 million today! This is all without being on legacy app stores." However, Sky Mavis has succeeded so far mostly by attracting scholars from developing countries who are willing to jump through extra hoops to earn an income. The game has garnered less attention from the developed world, as well as traditional gamers. If Sky Mavis wants to go mainstream, especially on mobile, they may find they have not yet outgrown the gatekeepers.

Doubling Down on Growth

Perhaps Sky Mavis will succeed one way or the other and get Axie: Origin in front of a large mass of traditional gamers. What will they do with this audience once they have it? The easiest option is to treat Axie: Origin as a pure loss leader whose only monetization scheme is to get people to download the pay-to-earn version of the game and enter the crypto ecosystem. Although this would certainly help to offset the observed stagnation in their growth, it doesn’t fundamentally change anything about their business model.

A different approach would be to make the F2P game a companion to the P2E game, and even direct traffic back from the the play-to-earn mode to the F2P one, building up a customer base that regularly puts in new money not with the hope of getting something in return but just for the sake of playing. This is unlikely given that Sky Mavis’ team has made many comments disparaging the traditional F2P model: "this in stark comparison to what you find in the traditional game industry where the goal is always to extract as much value as you can from the player base … [In Axie] the money is coming from players selling to players and they are co-generating the value with us".

Land Ho!

Sky Mavis plans to release the "Land Gameplay Community Alpha" in Q4 2021. Also known as "Project K," this is a new gameplay mode that will add an interactive world map divided into individual plots of land, with each plot backed by an NFT that trades on the marketplace.

In previous demos of Project K, players could harvest resources, build structures, and upgrade or decorate their plots of land with items they crafted or bought on the marketplace. At first blush this sounds fairly similar to games like Animal Crossing or Habbo Hotel. Sky Mavis also seems to have aims to turn this into a kind of social network:

"One of the learnings from Project K is that unstructured group activities such as meetups were also a huge draw, so this is something we’re taking to heart as well.

Long term, user generated experiences will make Land’s potential as an immersive environment truly infinite."

In September, the team laid out some general directions they could take land in:

1. Crafting, building structures, and harvesting resources

2. An open amusement park like experience with mini-games

3. A strategic battle between different armies for control of territory/resources

The land team met to discuss the path forward and it was decided to focus on (1) and then flesh out (2) and (3) over time.

The three options roughly correspond to the following:

1. 0 . FarmVille meets Stardew Valley

2. 1 . 2D Roblox with Axie assets

3. 2 . Clash of Clans

For now Axie will focus on the first, which is the simplest of the choices and will most immediately integrate with their basic economic model. That’s because land has hard economic benefits above and beyond social currency. Land-owners are granted the following rights and privileges:

• •Gain AXS tokens periodically generated on land

• •Gain access to resource nodes that grant AXS and other items

• •Upgrade land (presumably to make it more valuable)

• •Deploy self-contained games and experiences using the Lunacia SDK

• •Charge other players rent to access it

(It’s not immediately clear why land will generate AXS rather than SLP — perhaps separating the two will make it easier to balance the different games separately.)

Many of the new resources can be used to upgrade land as well as Axies. There will also be single-player battles against "Chimera," wandering monsters that grant resources when you beat them. It’s not clear from the whitepaper itself whether access to land is required to engage these, but it seems like that was the case with last year’s land gameplay demo.

Finally, there is a planned "Lunacia SDK" that will allow players to deploy "mini-games" and other experiences on land plots for other players to enjoy. Details are still scarce, but below is a screenshot of the editing environment, which suggests some sort of 2D, game-maker like experiences - similar to simple web games.

All in all, owning land gives players exclusive access to valuable resources and even completely gates access to certain game features. Though there is one bigger problem at hand.

The Looming Lunacian Land Crisis

"Digital real estate" is a fraught topic because the 30-year history of MMO’s has shown that improperly managed "digital land" systems predictably and consistently lead to digital land crises and recessions that mirror the effects we see in the real world. To the degree virtual economies create assets that are sufficiently "land-like," you will see these problems.

Digital land-like assets are any assets with the following characteristics, whether you call them "land" or not:

• •Scarce in supply

• •Necessary for production

• •Differ in value based on their location

"Land-likeness" can be a sliding scale, some assets can be more land-like than others, and an asset class doesn’t necessarily need all three properties to start seeing bad effects. Unfortunately for Sky Mavis, Axie Infinity’s land fits the textbook definition to a T.

First, Sky Mavis has implied that land in Axie Infinity is scarce; there will be no more than 90,601 plots available for sale. Second, land is necessary for production: not only is it the chief source of special resources generated by the land gameplay (upon which land owners have "first claim"), it also gate-keeps access to the Animal Crossing / Stardew Valley-style "upgrade and decorate my land" gameplay. Further, access to land is required to deploy minigames with the Lunacia SDK, and possibly even gate-keeps access to Chimera battles.

Third, the location of land matters:

- Every structure in Axie Infinity has space requirements. Some structures will require multiple connected Land plots to build.

- Your Axies will travel faster on land that you own.

- Connected plots can be managed and viewed all at once.

- Certain items will give buffs to Axies on connected lands as well.

This comment seems to imply that Axies must physically travel across this land somehow, which means that land situated next to something else valuable or important is itself more valuable to own, in the same way as an empty lot close to Times Square. The owner of the empty lot does no work to realize this gain in value; in fact, it is the productive activity of their neighbors that causes it.

The artificial scarcity of Axie Infinity’s digital land will cause a shortage where supply cannot rise to meet demand. Axie Infinity currently has over 2M daily active users, but only 90k planned plots of land. It doesn’t take much imagination to guess what this will do to land prices. As far back as February 2021, Sky Mavis ran a story on their own blog about a particular plot of land selling for over $1.5 million dollars.

For additional research on this subject, we reached out to MMO expert Raph Koster, famed designer of Ultima Online, Star Wars Galaxies, and MetaPlace, as well as CEO of the promising metaverse project Playable Worlds. Raph has a deep knowledge of virtual worlds going all the way back to MUDs, MOOs, and MUSHes at the dawn of the computer game era. He had this to say on the subject of how land obtains value:

The question of location as value driver, and the question of scarcity as value driver have both always existed, and even from the earliest days, some worlds tilted one way or the other, even in the days when worlds were all entirely non-Euclidean.

In games where harvesting (loot/monsters/etc) from the statically created landscape is a thing (e.g., every Diku-derived game such as WoW) the land is inevitably a "necessary factor of production." There isn’t anywhere else for that quest, those spawns, that dungeon entrance, to be.

Raph shares the following amusing anecdote about rent-seeking player behavior:

This latter topic opens up the issues like we had in Galaxies, where there was ample room for everyone to own a house if they chose – but people did things like build player cities atop the entrances to dungeons to monopolize access to resources.

Of course, for some designers this might be exactly the sort of conflict you want in your game:

I’d challenge whether this is always bad; the conflicts over private and public use of land, conflicts over territory, the question of whether a handcrafted or a procedural map are better – these are not simple. Some of them provide gameplay – getting players to try to tackle an enclosure problem (shades of 18th c. England…) is potentially a feature and a generator of fun, not just an economic crisis.

Whether or not Sky Mavis thinks this behavior is beneficial, it’s unlikely that the majority of players will be enthused that the new gameplay mode is aiming to treat over 95% of the player base as second class citizens.

Economic theory dating back to Adam Smith, David Ricardo, and Henry George, and supported by modern economists such as Nobel laureate Joseph Stiglitz, reliably predicts how this will play out. All of the land will be bought up by private owners who will directly or indirectly charge rent to access the fruits of the world of Lunacia and the value "co-created" by its players. As the population grows, demand for land will increase, but given that land is fixed in supply, and there is no cost to holding it, it will always be more valuable for speculators to hold land out of use than to spend time and resources putting it to its most productive use.

This is exactly what happened with EVE Online soon after its launch; fortunately economist Ramin Shokrizade identified the root cause of the problem — unchecked speculation in land-like access — and came up with a solution. He directed the development team, acting as the "government," to apply a high holding cost to owning land-like assets, so only players who intended to actually put them to productive use would want to own them. Ramin didn’t know it at the time, but he was re-deriving Henry George’s famous Land Value Tax from first principles, and it worked exactly as George predicted: it drove speculators out of the market and freed up the land-like assets (spaceship factories in this case) for productive owners, unsticking the economy and laying a clean foundation for EVE, which has gone on to enjoy tremendous success, with emergent player-driven society, drama, and economy at the heart of its ecosystem

Sky Mavis is currently planning to release land in phases, but because the total amount is capped and known in advance to land speculators, this will do little to alleviate the problem. There are a number of other policy options they could choose to pursue; they could follow EVE’s lead and impose a Land Value Tax, or they could embrace the digital nature of their platform and do something we can’t do in the real world: just make enough land for everybody.

Unfortunately, by committing upfront to a land presale Sky Mavis has established a class of landed gentry who will likely put up fierce resistance to either choice. This forces Sky Mavis to choose between two implacable coalitions — "aristocrats" who bought in early on the promise that land would be a scarce and predictable generator of revenue — and new players who are now landless "peasants" must pay high rents or else be excluded from the gameplay features and resources that land ownership provides. The land economy, as currently designed, doesn’t look like a good way for Sky Mavis to transition to a system that doesn’t depend on perpetual growth and speculation.

There is one way Sky Mavis may try to not push away new users while still keeping the letter of their promise to land owners, and that’s "digital land dilution." This is when you keep the literal amount of digital land scarce, but you subtly change the utility and function of it. There are many ways to do this:

• •Embrace non-euclidean geometry. Make it "bigger on the inside" and fractionalize the inflated hyper-dimensional land into new sub plots

• •Introduce new gameplay features that provide access to the same resources and benefits that land provides so land becomes merely "nice to have" rather than "necessary for production"

• •Introduce new travel mechanisms (such as portals and teleporters) that reduce the locational value of land

Axie Infinity’s coming update will make landowners the gatekeepers of the Axie universe. Out of 2M daily active users, only a maximum of ~90k will be allowed to deploy interactive experiences, and the initial phase will be limited to a mere 12 thousand or so plots; it seems strange to apply such tight prior constraints when seeking to build out a software platform. Furthermore, instead of making sure to allocate land to the most creative and industrious players, Sky Mavis risks letting it fall in the hands of land speculators who will demand a high price for the privilege of building interesting things. With developers in other sectors putting up fights over fees charged by app stores, it’s not clear how they will feel about paying literal rent for the privilege of building value for Sky Mavis.

Larsen was coy when we asked him about Sky Mavis’ plans for land gameplay, but acknowledged they were aware of this issue: "In terms of product design for land, I think the only thing I can say is that the spec is evolving as we realize that the player base of Axie is larger than we had maybe originally intended."

To the Metaverse and Beyond

Perhaps Sky Mavis will find a way out of the land crisis they’ve set themselves up for. Let’s assess their plans for making the world of Axie Infinity a "metaverse" of sorts, where players create interactive experiences for one another, merging both game distribution platform with social network, and embodying it all in a contiguous virtual environment, a sort of "digital mall". Each of these plots of land could then be the gateway to some strange and wonderful experience:

The two projects this most clearly evokes are The Million Dollar Homepage and Decentraland. The former was an early 2000s project where a 1000x1000 grid was put up for sale at $1 per square pixel, with the promise that the site would remain up perpetually and all sales were final and no images or links would ever be changed. "Buy a piece of internet history!" was the pitch. The Million Dollar Homepage looks like this:

Decentraland expanded on this basic idea and merged it with a 3D avatar-based scriptable game very similar to Second Life. Decentraland is effectively a virtual mall where you have to physically walk around to find what you want or jump directly there from a massive labyrinthine map.

After you jump somewhere instantly, you still have to walk around virtually to get from point A to point B within any given environment.

We don’t know much about the land gameplay yet in Project K, but the few details we’ve heard so far seem to suggest it will be built on something like a simplified 2D version of the Decentraland model. Implementation is really important here, because player-driven creative activity is the most plausible path out of Axie Infinity’s unsustainable growth-and-speculation-driven trajectory.

As best as we can tell, Sky Mavis’ plan is to essentially build something like Roblox on the blockchain with Sky Mavis and Axie Infinity at the center of it. Roblox is famously not just a platform for games and experiences but also a full-fledged social network, so the appeal of this approach is obvious.

Roblox differs in two ways from Axie Infinity, however. First, you don’t need a landlord’s permission to build a Roblox game — you just build it and share it. Second, you don’t discover and access games and experiences on Roblox through an embodied 3D virtual world, but with a simple website catalog:

Roblox has arguably gone further than anybody else in fulfilling the promises of a "Metaverse" — a game platform and a robust social network — and they dispense entirely with the "virtual mall" metaphor, opting for good old fashioned searchable and browsable catalogs that take you directly to the thing you want.

Beyond the Lunacia SDK, Sky Mavis has plans to build its own decentralized exchange, or DEX, which will allow players to trade assets on the Ronin blockchain directly without having to worry about interfacing with cross-chain bridges to complete their transactions. This could further boost investment in Axie just as the transition to Ronin did, and there has been further speculation that Ronin could become the blockchain of choice for non-Sky Mavis games to launch on.

Finally, blockchain games are in desperate need of distribution. Steam, the largest PC gaming distributor, has just banned all crypto games. Apple, who controls the most lucrative mobile marketplace, has already banned them three years ago. As for Google, the situation is less clear-cut: a search for "NFT games" on the Play Store turns up titles like "Binemon" and "Crypto Dragons - Earn NFT", but Google has also recently made it very clear that any game that offers in-app purchases for items such as "virtual currencies, extra lives, additional playtime, add-on items, characters and avatars" must use Google Play to facilitate those transactions, which would seem to cover NFT-based games. However, users can always sideload NFT-based games onto Android even if they’re banned from the Play store. As for home consoles, we have not gotten an official policy stance from any of the three major platforms as of this writing. There’s a small chance Sony or Microsoft might be open to them, but it’s a sure bet that famously conservative Nintendo is a no.

While Sky Mavis has the world’s attention, they might seek to transform Mavis Hub into the de facto platform for discovering and distributing new blockchain games. In the long run wielding that kind of platform power could be more valuable than Axie Infinity itself.

The Pledge to Decentralize

In its current state, Axie Infinity is essentially a centralized system. Until very recently their Ronin sidechain was "permissioned," which means that a few hand-picked accounts, paid by Sky Mavis directly, were validating all transactions. Functionally speaking this meant the sidechain was indistinguishable from a conventional database.

Axie Infinity’s private sidechain, Ronin, debuted with a "Proof of Authority" validation method, where transactions are approved by a 2/3 consensus of validators hand picked by Sky Mavis themselves. Since then AXS Staking has gone live, but AXS is not used for validation; instead Sky Mavis is issuing a new token called RON that will eventually be used to power proof-of-stake validation on the Ronin blockchain.

The launch post for AXS staking says that "In the future, staking AXS will give you voting rights and a say over the use of the Community Treasury which now holds over a billion dollars in tokens." Therefore, AXS is meant as a governance token that confers voting rights specifically for the Axie Infinity game; this allows Sky Mavis to separate governance of Axie Infinity with control of the Ronin blockchain itself.

Putting the blockchain aside, key components of their application remain centralized and trusted, not the least of which is the application itself. The game relies heavily on centralized servers and databases to facilitate matchmaking and game battles, which Sky Mavis currently maintain sole control over. The key proof of this is that Sky Mavis is able to ban player accounts (and their Axies) unilaterally. They have good cause for many of these bans — no one is shedding a tear for abusive sponsors and economy-breaking bot farms getting the righteous boot. But it also means that Sky Mavis — by virtue of controlling the app itself — can also do things like cut daily income by half. The bottom line is that blockchain or no, it’s trust all the way down.

Players clearly trust Sky Mavis so far, or they wouldn’t be putting their money and time into the system. And Sky Mavis has made overtures to share their power over time with owners of AXS governance tokens, which will facilitate transfer of ownership of the game itself to a Decentralized Autonomous Organization, or DAO. Now, the blockchain may keep track of who owns various shares of the governance tokens, but what ultimately connects that ownership to actual decision-making power is trust. Legal trust.

Sky Mavis owns Axie Infinity’s IP and licenses it out to a corporate entity known as Axie Infinity Limited, a company registered in the Cayman Islands. This company reserves for itself broad and sweeping powers over every aspect of the game. Voting rights in the DAO would need to be given contractual, legally binding control of this organization to give those votes any teeth. Among the rights Axie Infinity Limited reserves for itself are the power to:

• •Grant and deny access to the app and the smart contracts

• •Own all intellectual property

• •Enforce licensing terms with the "owner" of an Axie concerning e.g. merchandising

• •Forbid players from using multiple accounts within a 24-hour period

• •Ban players subject to international trade embargoes or economic sanctions

• •Impose regional locks gating access to the game

• •Ban the use of automated scripts

• •Ban the selling or trading of accounts themselves

• •Ban the use of the site app or smart contracts "as part of any effort to compete with us"

• •Permanently ban any user "for any reason or for no reason"

• •Ban those who "disparage, tarnish, or otherwise harm, in our opinion, us and/or the Site, the App, and the Smart Contracts"

Such terms of service are not uncommon in many traditional multiplayer games, and in fact most of them are necessary in order to do the kind of fine-tuned market fiddling necessary to keep the economy balanced. Nevertheless, until or unless Sky Mavis / Axie Infinity Limited sees fit to modify these terms, players that are not also legally part owners of Axie Infinity Limited should not expect to wield any true power.

It’s pretty clear that the average player (a scholar from the Philippines) probably doesn’t care much about this. In fact, the average player probably doesn’t care that Axie is on the blockchain at all so long as they can earn their daily rates and cash it out for local currency.

But investors who hold $AXS tokens and have been given the promise of "true ownership" very well might, as this was Sky Mavis’ explicit promise to them:

Axie Infinity Shards (AXS) were introduced in November 2020 to ensure Axie becomes the first game owned by the community that plays and supports it.

Sky Mavis has been consistently making many tweaks to the economy, often to the direct short-term detriment of players’ earning capabilities. Whether they will be able to continue to micromanage the economy in this manner while also gradually handing over real power to players with a direct economic interest in particular game design and market balance configurations remains to be seen.

How Does All the Above Impact AXS Long-term?

In short, if Sky Mavis changes nothing in today’s state of the game, value accrual to AXS will be significantly hampered. Our projection model below showcases how this plays out. A few key assumptions we’ve made:

1. 0 . Axie Infinity’s DAU growth spurt will decelerate over time (Row 3), but this could look quite different if Sky Mavis figures out other growth hacks. A solid distribution / upsell plan for Axie Origin could be one example.

2. 1 . Monthly Marketplace Volume (Row 6) has been projected out using a constant ratio of Marketplace Volume / DAU (Row 5), which has stayed relatively constant in the past.

3. 2 . November 2021’s ETH-USD Conversion (Row 9) was taken as of November 1st, 2021.

4. 3 . Axie Count / DAU (Row 12) is a fixed 3.50 for the future, since this metric is currently flatlining and that is after Sky Mavis applied all the previously discussed balancing changes, which seems to indicate some kind of a sweet spot they’d like to maintain for this metric.

5. 4 . AXS / New Axie (Row 14) is fixed at 1 for the future, which is the newly rolled out breeding cost change. This might change in the future, but we have no reason to believe so at the moment.

6. 5 . November 2021’s AXS-USD Conversion (Row 16) was taken as of November 1st, 2021.

What the above projection essentially shows is that Axie Infinity’s current revenue model is less driven by total player numbers and more driven by the pace of new player additions. This is a natural result of both breeding and marketplace activity fundamentally serving to onboard new players with their own Axies, and those events are front-loaded. Therefore, if the pace of new user additions slows — and Sky Mavis wants to maintain a consistent ~3.50 Axie Count / DAU ratio — the game’s revenue output will shrink. And, of course, shrinking revenue is a clear negative when it comes to AXS’ potential Fully Diluted Market Cap (Row 25).

One additional headwind for AXS value capture is the heavy and constant dilution of AXS tokens. This can be seen in the image below, where the percentage of AXS circulating supply that lives in the treasury generally doesn’t increase gradually over time. If revenue shrunk while tokens further dilute, that would likely hurt prices!

This is all, of course, projections based on the present state of the game that is bound to change. Even if our future assumptions are slightly off — and as always we strive to be generally right more so than precisely wrong — it points to real problems in revenue sustainability and therefore sustainable value capture.

So how could future feature additions potentially change this reality? For now, we’ll provide a simple answer: everything hinges on the ability to generate more ongoing revenue from existing players.

We have a hard time seeing the existing game modes solve that, because as scholars — the majority of players — constantly look to extract more value than they put in, it becomes a cat-and-mouse game of monetary policy and user acquisition to sustain prices.

Axie: Origin, the F2P version, may help drive more DAUs to the "premium" game, but that keeps the current model running at a larger scale and does little to build more fundamental business model sustainability. If successful, it may drive more value to AXS in the interim (because revenue correlates with the pace of new user additions), but long-term, sustainable value still hinges on creating new revenue streams.

In our view, it really is up to the UGC efforts (around land) to add new ongoing revenue streams. We have been critical of the land strategy so far, but if Sky Mavis successfully empowers people to build experiences that lead to a more vibrant economy (where players want to spend tokens on digital goods and experiences without expecting a financial return), then Axie Infinity may find additional revenue streams that bring more balance and sustainability to the larger token economy. Notably, this is many quarters away, however, and there still isn’t much clarity on how exactly it will work. In other words, the main catalyst that maybe would create a more sustainable economy is still distant.

Beyond that, there is a chance that the team enacts changes that build more sustainability but would enrage certain parts of their existing audience. For example, they could add more plots of land than initially promised or find ways to "release" (sink/burn) Axies (build more scarcity). Or they could even overhaul the existing game modes, although that’s pure speculation and unlikely. They could even add new game modes with entirely different economics. And, of course, they could come out with something they have yet to signal and we have yet to foresee.

Naavik’s Conclusion

There’s no doubt that what Sky Mavis has accomplished with Axie Infinity over the past 3 years is impressive. Not only is the game successfully pioneering the play-to-earn movement (providing income to thousands of scholars), but it’s created tremendous value in the process. Sky Mavis is also using this initial success as a launchpad for even larger aspirations.

That said, Axie Infinity’s business model, for the moment, depends on continued growth in its user base and continued fresh money entering the system to prop up the value of Axies, $AXS, and $SLP. The pace of that new user growth is also critical, because any slowdown in the breeding and selling of Axies to new players will lead to a decline in revenue. We think this outcome is likely over the coming months barring any unforeseen spike in new users. In Sky Mavis’ own words, "this is unsustainable." Of course, as Keynes probably didn’t say, "the market can stay irrational longer than you can stay solvent."

What really matters for Axie Infinity’s future is whether Sky Mavis can provide credible future plans for new features that will ground the game in a more stable source of recurring revenue that meets the expectations of all stakeholders. This hope squarely rests on the potential of the land-centric user-generated content efforts (some players need to be willing to spend without expecting a financial return), but we’re still hesitant to assume that these particular plans will lead to outsized, sustainable success. Fortunately, it’s relatively early, and there’s still time to tweak certain economic flaws and re-optimize upcoming features for greater success.

The greatest risks are two-fold. First, there’s the risk that the game’s player base will remain firmly within the "play-to-earn" crowd without attracting significant numbers of players happy to simply play the game for fun and put new money into the system without expecting a return. So far the game has attracted little attention in the developed world outside of crypto enthusiasts and investors, likely due to its particularly high barriers to entry. Second, we’ve yet to see how upcoming features will bring more stability to the economy and recurring revenue to Sky Mavis / AXS holders. If this isn’t resolved, the inherent unsustainability of the current model will eventually show its face and lead to economic turmoil. If it is resolved, however, exponential upside remains.

The only resource Axie Infinity lacks is time. Its meteoric growth has brought with it meteoric expectations, and the entire blockchain gaming sector is watching. Sky Mavis’ core task is to keep hope in a sustainable future alive with clear, consistent, and timely messaging. And then, it must deliver the goods.

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