Advertising in and around video games is a growing business. The 14 in-game advertising companies Library House tracks have raised nearly $250 million in disclosed venture financing, and Yahoo!, Google and Microsoft have each acquired a startup in the space. The opportunities and challenges faced by these startups vary substantially based on what type of games and which platforms they target. The three major categories of in-game advertising are as follows:

Console and hardcore PC games
The most radical innovation in video game advertising involves inserting ads directly into the 3D worlds of today’s console and PC titles. Realistic titles such as Atari’s “Test Drive” are set in contemporary environments, where gamers would expect to encounter real advertising.

Working with publishers to insert advertising opportunities into such titles requires heavy lifting on the startup’s behalf, both from a business and from a technology perspective, so companies in this sub-group of in-game advertising companies have raised the largest amount of venture funding per company.

Massive, a pioneer in the space, raised $17.6 million before its 2006 trade sale to Microsoft, which was reported to have been worth between $200 and $400 million. Rivals Double Fusion and IGA Worldwide have each raised over $40 million in venture capital to build out their networks.

Those networks are live and reaching gamers: IGA Worldwide, which serves ads into over 50 games such as Electronic Arts’ first-person shooter “Battlefield 2142,” is serving 100 million ad impressions to over 1 million gamers per week.

Despite this, advertising has not yet made a substantial contribution to game publishers’ turnover. In the quarter ending 30 September 2006, for example, EA earned $5 million from in-game advertising – less than 1% of its total quarterly revenue.

The video games industry has high expectations for in-game advertising, however. During that quarter’s earnings conference call, EA’s CEO John Riccitiello said, “I really think when it comes to in-game advertising, the way to think about it is it will be some day a great business. It is not today. Most people involved in the business are investing spending to establish position and it’s just currently not at all at scale.”

Casual PC games
A fast-growing segment of the video games market is casual gaming. The Casual Games Association estimates that 200 million each month play casual games like PopCap’s “Bejeweled” and PlayFirst’s “Diner Dash” online. The model varies substantially from console titles, which attract a younger demographic and a smaller audience (there is a next-generation console install base of only 46 million worldwide, according to VG Chartz).

Real Networks’ RealArcade casual games service, for instance, reaches an audience that is over two-thirds female, with 80% between the ages of 35 and 64. The company operates a hybrid model, where users can trial any game for free – with advertising – but must pay a monthly fee to download games for unlimited play.

Other games services are entirely ad-funded, such as Kongregate. Game developers upload games to the site in the same way that users upload videos to YouTube, and Kongregate shares the revenue from ads shown to its 1.3 million monthly visitors with developers.

Advertising in casual games typically surrounds the game or is run before or after gameplay. In either case, serving ads onto games sites does not require the complex integration performed by console and hardcore PC in-game advertising firms. Startups addressing the casual games advertising market therefore function more like standard online ad networks. Some examples of casual game ad networks are San Francisco-based Mochi Media and Silicon Valley-based NeoEdge Networks. Google purchased AdScape, another San Francisco firm, in Q1 2007.

Mobile games
Gaming on mobile phones is at an earlier stage of its evolution than either console or PC gaming, but already publishers and mobile operators are bringing advertising into the picture, hoping that advertiser-subsidised gaming will allow mobile games to reach a wider audience. Despite substantial improvements in game quality over the last 3 years, mobile gaming has failed to crack the mass-market, even as interest in other mobile data services - particularly the mobile web - is surging.

London’s Amobee and San Francisco-based Greystripe are competing to provide the technology to wrap ads around mobile games. This is no simple feat, since games publishers produce hundreds of variants for each mobile game title in order for their games to run on as wide a range of mobile phones as possible. In building their networks out, Amobee has placed a high priority on mobile operator engagements, and received investment from Vodafone and Telefonica last November. Greystripe, meanwhile, is pushing its own free mobile games portal, called GameJump, and has struck several deals with high-profile mobile games publishers such as Digital Chocolate, Vivendi and Hands On Mobile.