Chinese developer Hoolai on how half its iOS revenue got eaten by virtual currency scams last fall

After bringing its hit social game Three Kingdoms to the iPhone last fall, everything was looking up for Beijing-based developer Hoolai. The game had climbed to the top of the grossing charts in China, Apple’s biggest market by revenue after the U.S.

Hoolai looked set to rake in $600,000 from iOS last October, said Jian Huang, the company’s president.

But when the payment came from Apple, only half of it was there. The rest had been eaten by fraudulent virtual currency purchases originating from Taobao, known as the eBay of China.

Hoolai, which is backed with more than $20 million from Sequoia China, Greylock Capital and Bertelsmann AG, is one of several Chinese mobile developers that have seen a big share of their reported revenues consumed by virtual currency scams. Hoolai’s game, also known as 胡莱三国, is one of several Mandarin-language apps that have mysteriously climbed  up the top grossing charts in the U.S. and U.K. on the back of fraudulent transactions from independent scammers even though they have no English-language localization whatsoever.

We reported on this strange phenomenon last week, but this is the first time Hoolai has spoken to the Western press about its situation. Their game Three Kingdoms climbed to a rank of #5 on the U.S. grossing charts two weeks ago even though it’s entirely in Mandarin. On that day, their analytics service from App Annie told them they had pulled in $65,000 globally (see the screenshot they sent us below).*

The other mysterious thing is that Hoolai’s game was riddled with close to a half-dozen one star reviews from users who say they were unwittingly charged for virtual currency packs they didn’t buy. This was happening even though the version of the app in the Chinese iTunes store has close to 1,200 ratings averaging 3 1/2 stars.

Hoolai says that it too is a victim. It says that scammers are falsifying credit card numbers or stealing them from real consumers, including some who are iTunes users in the U.S. They then wholesale them into China where they are used on Taobao to purchase all sorts of things — including virtual goods in its games. We reported last week that on Taobao, a gamer can buy virtual currency or paid apps at a discount of 50 percent or more. The seller will give them an iTunes log-in tied to a fraudulent or stolen credit card number which can be used to purchase the goods.

When this happens with credit card numbers tied to U.S. or U.K. iTunes accounts, Hoolai says its game gets driven up the grossing charts in those countries. But it doesn’t earn any revenue from these transactions because Apple discovers the fraud and then sifts the bad payments out by the time it pays developers their share.

“We are truly sorry about what happened to these people,” said Xiang Lin, who runs Hoolai’s overseas operations.  “Our game is not yet even launched in English or Spanish but we do want to keep the door open there. We hope that U.S. audiences and the media can understand the truth.”

Hoolai is no run-of-the-mill developer in China. With backing from top-tier investors like Sequoia China, Hoolai has legitimate support from the venture community. It’s also a Chinese partner to Japanese gaming juggernaut GREE. In China alone, Three Kingdoms earns roughly $30,000 per day at its consistent top five ranking after Apple’s cut. The company’s game is also one of the top grossing titles on Tencent, the Chinese IM and social networking giant with 700 million monthly active users. Before Tencent takes its cut, the game grosses $10 million per month. Hoolai wouldn’t disclose revenue share with Tencent, but it would be fair to say that Tencent takes well over half.**

So by the time Hoolai launched Three Kingdoms on iOS in September, it had a rabid fan base awaiting the mobile game’s debut. Hoolai’s players immediately turned to Taobao, which had emerged as a popular hub for iOS gamers who lacked the credit cards needed to pay for apps or virtual currency.

“When one of our players finds a backdoor, they’ll try to charge a very, very huge amount of money over a short period of time,” Huang said.

But the problem, thankfully, has been easing a little bit because Apple started to offer Chinese yuan-denominated payments in November. Before that, you either had to have a credit card (which many Chinese consumers don’t have because the country has poor credit penetration) or an iTunes gift card. Taobao became a destination for buying and selling such gift cards to gamers who wanted to get paid apps or virtual currency on iOS. When Apple finally launched local payments tied to Chinese bank cards, that gave gamers a legal alternative to scouring Taobao’s boards.

But Hoolai says it still doesn’t have all the tools it needs to fight the problem. There’s no way for the company to tell which players are legitimately paying for goods and which ones are making loads of fake payments. Apple understandably doesn’t want to hand over payments information that could compromise user privacy.

“We don’t have detailed payment transaction records,” Huang said. “So we have no way to identify which players are the bad ones. We’ve tried to build algorithms to identify strange payments. But mostly, everything must be done manually and by guessing rather than proof.”

**Tencent effectively ends up taking close to 70 percent of revenues, according to our conversations with them last fall. There’s a 40 percent cut for hosting and servicing costs and then a 50-50 split of the remainder. However, unlike American platforms like iOS, Android and Facebook which have a flat tax, revenue shares on Tencent are variable and depend on the individual developer. Tencent told us last fall that it was paying its top developer (which was probably Hoolai though not confirmed) 10 million yuan or about $1.6 million per month. If Hoolai had a standard 70-30 revenue split with Tencent then, that would have implied that the game was grossing more than $5 million per month in the early fall. Chinese platforms like Tencent and Renren often justify their higher splits by saying they have to do a more intensive app review process in compliance with government censors.

*It is strange that U.S. revenues are lower for a Top 5 ranking than Chinese revenues, but this may be happening because the charts are updated several times a day. It’s possible that all of the purchases went through in a short time period, pushing it to the top for part of the day.