In mid-August, Epic Games rolled out direct payments in the iOS and Android versions of its hit game Fortnite. The feature allowed gamers to buy in-game currency and products directly from Epic instead of going through Apple's (NASDAQ:AAPL) App Store and Alphabet's (NASDAQ:GOOG) (NASDAQ:GOOGL) Google Play Store.
Epic then offered 20% discounts on those direct purchases. Since Apple and Google both retain a 30% cut of all in-app payments, Epic actually generated more revenue from each discounted direct sale.
However, Epic's move blatantly violated Apple and Google's policies, which prohibit companies from offering direct in-app payments. In response, Apple and Google both booted Fortnite from their app stores.
Apple's decision was more damaging for Epic, since iOS is a closed ecosystem which doesn't allow users to install apps from other sources. Android users can still install Fortnite from Epic's website instead of from the Play Store.
Epic immediately sued Apple over Fortnite's removal, but it didn't sue Google -- presumably because Android users can still install the game. Let's see why Epic is rebelling against the world's top app stores, and why Apple's investors should pay close attention to this escalating feud.
Challenging the app store overlords
Fortnite, which popularized the battle royale genre over the past three years, hit 350 million players in May -- up from 250 million players a year earlier.
Fortnite is a free-to-play game which generates most of its revenue from costumes, skins, and Battle Pass subscriptions, which grant players access to exclusive updates and features. The game reportedly generated $1.8 billion in revenue last year, according to SuperData Research.
Epic realized it could leverage Fortnite's popularity to expand its own ecosystem. In 2018, it launched the Android version of Fortnite on its own website instead of on the Google Play Store. Epic only brought Fortnite to the Play Store earlier this year after claiming Google was making it difficult to install external apps on Android devices.
Epic also launched the Epic Game Store on Windows and macOS to challenge Valve's Steam in 2018. To gain more developers, Epic undercut Steam's fees and offered even lower fees for companies that produced video games with its own Unreal Engine.
Epic also started developing an Android version of its Game Store. An Android version of the Epic Game Store would directly compete against Google Play, and lower fees -- especially for Unreal Engine games -- could lure developers away from Google's ecosystem.
What's Epic's game plan?
Epic's decision to launch direct payments on its iOS and Android apps suggests it's getting ready to part ways with Google on Android devices.
Epic likely didn't care too much about Google booting Fortnite from the Play Store, since it was continuously downloaded from its own website for over a year, and cutting ties with Google clears the way for the launch of its own Games Store.
Its situation with Apple is more complicated, since iOS is a closed ecosystem which prevents users from installing external apps. However, Epic likely sees an opportunity to leverage Fortnite's audience to force Apple to reduce its fees.
Apple initially retaliated against Epic by blocking its developer accounts, restricting access for developers which employed its widely used Unreal Engine, and removing Fortnite from the App Store. However, a court recently blocked Apple's first two actions, arguing that Apple didn't have the right to take away Epic's tools or penalize developers that used the Unreal Engine -- but upheld Apple's decision to remove Fortnite from the store.
For now, Fortnite remains installed on many iOS devices, but players won't be able to download the game or install any future updates. Nonetheless, Epic seems willing to temporarily sacrifice its growth in new iOS players to apply pressure on Apple's App Store practices.
Apple could be forced to make changes
If Epic makes enough noise, other companies that are openly challenging Apple's App Store fees -- including Spotify, Rakuten, and Netflix -- could join the rebellion. Apple's App Store already faces an antitrust investigation in Europe, and louder complaints could spark similar probes in the U.S. and other countries.
Those headwinds could throttle the growth of Apple's Services segment, which grew its revenue 16% annually in the first three quarters of 2020 and accounted for 19% of the tech giant's top line. That unit generates its revenue from the App Store, Apple Music, Apple TV+, Apple Arcade, Apple Pay, and its other services. Its growth is expected to offset slower sales of its hardware devices in the future.
Epic's attacks against Apple might not cause significant damage on their own, but the combined pressure from other companies and regulators could force Apple to make some unfavorable concessions.