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By The Time US Gaming Giants Figure Out Tencent's Playbook It May Be Too Late

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If you blinked you might have missed last Friday’s news that Chinese Web giant Tencent is buying LA-based Riot Games. And that’s just fine by Tencent.

Tencent and its founder Pony Ma (seen in a sea of winking penguins to your left) are incredibly press-shy, as everything about the way the deal “leaked” demonstrates. It came late on a Friday before the Superbowl, it was positioned as Tencent buying an undisclosed “majority share” and not an acquisition – even the subsequent analysis was that it was just more proof of how hot the US gaming market is. Even Chinese companies were buying into it!

In fact, this deal represents way more than that – and anyone in the game industry should be paying attention. Not only is this one of the biggest gaming acquisitions of late and one of the biggest purchases of an American company by a Chinese company, but it shows who really understands where gaming is going at a big company level. This isn’t about China suddenly wanting a piece of the hot US gaming market– China and Korea are light years ahead of many gaming startups when it comes to in-browser games and virtual goods. According to Mitch Lasky, a Benchmark partner and investor in Riot, the deal was hotly contested and almost every suitor was from China or Korea. American gaming companies who get on conference calls to talk about how badly they want to expand in this market were nowhere to be found. “American companies don’t get the future they are facing,” Lasky says. “It’s remarkable how short-sighted they are being.” Put a more macro way: This new generation of in-browser gaming and virtual goods could well be the first Internet category where America simply doesn’t dominate.

And Tencent is the most formidable of the next generation gaming titans. The company has been methodically building relationships in the Valley for years, very quietly acquiring stakes in dozens of companies and some small companies outright. As a refresher, the company is not merely the largest Web company in China, it’s the third largest publicly traded Internet company on earth. Like most Chinese companies, it’s been loathe to make acquisitions in China– in part because of it doesn’t want to dilute its culture– and in the US– in part because it doesn’t want the potential American backlash. The fact that this deal was slipped so under the radar, with no outcry no doubt will embolden Tencent and others to make more US purchases.

And, for the entrepreneurs involved, that’s a good thing. There are certain strengths that Chinese Internet companies have that American Internet companies don’t, mostly around monetization execution and micro-payments. Just as a wave of Chinese entrepreneurs learned from working at Valley-based multinationals, so too do gaming entrepreneurs have a lot to learn from Chinese and Korean gaming companies. That’s the big leagues when it comes to high-volume computer-based gaming, not anything happening over here. What Tencent could teach an entrepreneur about scaling and thwarting thousands of hacks per second could rival the most seasoned Valley geek.

Like most things Tencent does, the deal was methodical and a long time coming. The company was an investor in Riot, and has positioned this as a buyout of other shareholders, rather than a straight acquisition. That’s technically true, but it’s not just a DST-like secondary deal. All of the other investors and shareholders– save a group of management Tencent wanted to still have skin in the game– got cashed out. And my understanding from people close to the deal was it was cash, with very little earn-out on the back end.

It’s an interesting way to structure an acquisition. Tencent has clearly learned from what most Valley companies have done badly in China and doesn’t intend to micromanage Riot from half-a-continent away. It intends for Riot to stay independent, and even has said it would support an eventual Riot IPO. If the deal becomes a success, this could be the new model for acquisitions not only for Tencent– but for Chinese Web companies in general.

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