The iPhone just became a much, much bigger threat to the traditional video game industry.

Rockstar Games has announced plans to release “Grand Theft Auto: Chinatown Wars” on the iPhone and iPod Touch this fall.

“Chinatown Wars” began as a Nintendo DS exclusive. It never really found an audience, though. Once the exclusivity window expired, Rockstar announced plans for a PSP version (which will come out Oct. 20).

The announcement comes on the heels of Rockstar’s another press release, noting that the forthcoming “Beaterator” is also headed to Apple’s products this fall. A PSP version of that game is due around the same time, as well.

Rockstar’s parent company Take Two Interactive was slow to get into the iPhone market, but its first effort - “Civilization Revolution” - was a notable hit. It quickly became the top-selling paid application and is still a fixture in the Top 25.

Development of iPhone ports of games for major publishers is basically an incidental expense. The engine and assets are easily moved over from other platforms and the conversion process is a relatively painless one.

Pricing is key, though. iPhone users aren’t likely to spend more than $10 on an app, no matter how prestigious. Will Rockstar keep the price at a reasonable level or try to push the limit on the power of the “GTA” name?

Take Two and Rockstar aren’t likely to break down sales of the iPhone version versus the PSP and DS versions, but the numbers are likely to leak. And it will be very interesting to see which platform sells the most copies (and makes the most profit).

If it’s the iPhone version, we could be a lot closer to an iPhone exclusive game of a major franchise than we were a month ago. 

It's basic economics: Huge supply and limited consumer attention means low prices. That's why there's a price war amongst the 6,000 games in the iTunes app store. Look through the top 100 paid titles and you can't help but notice that 98 of them are $5.99 or less. Some of the highest quality titles are shockingly cheap. Warner Bros. "Watchmen" game is just 99 cents. EA's "SimCity" is only $5.99. The awesome tower defense game "Fieldrunners" is only $2.99. 

At those downloads, you have to sell a lot of downloads to make a profit (at least if you're anything more than one person working at night). Making even $100,000 on a $5 game means that, after Apple takes its cut, you need to sell nearly 30,000 copies. That's no easy task in a space where the very best selling games, like "iShoot" and "Super Monkey Ball" have sales in the mid six figures. The top titles might be moving enough units to turn a profit even at a low price. But the sales charts fall off rapidly after the top 100 or so. There are a lot of iPhone games making not a lot of money.

And the iTunes "shelf" only makes matters worse. The number of games that can be featured in the app store on the iPhone is miniscule. If you don't have the connections or luck to get featured, there's only one other way to get noticed: hit the top of the popularity charts. What's the biggest hindrance to that? A high price, for one thing.

How then, can developers and publishers afford to invest in high quality titles and make a profit? Today Apple came out with a fantastic answer as part of the iPhone 3.0 software update coming this summer: in-game downloadable content. I've already written about how DLC has become absolutely crucial to the business model for AAA Playstation 3 and 360 games.

On the iPhone, it could make an even bigger difference. In the current retail model, publishers still need to sell a game to a consumer for $50 or $60 before they can make more money off of DLC. But with a digtially distributed iPhone game, developers can give consumers exactly what they are demanding: the core game cheap, or even for free. Then the game makers can start making money off that base by offering downloadable content. Razor and blade, meet the iPhone.

The explosion of the App Store for the iPhone and iPod Touch couldn’t have come at a more opportune time for the videogame business. As major publishers downsize and and the number of original properties shrinks, developers have a growing need for new creative outputs.

Which is exactly what the App Store provides. You’d be hard pressed to find a talented programmer or designer these days who, if they’re not working 80 hours per week at a senior level, isn’t working on some kind of game for the iPhone / iPod Touch either in their spare time or full time. Why not? The tools are widely available, it’s not that hard, and there are examples of hit apps generated by a single person generating tens of thousands of dollars for their creators.

You’ve also got major publishers like EA and Sega moving aggressively into the space, as well as start-ups with significant venture funding like ngmoco. But one of the biggest signs of how much attention the space is getting could be Appy. The team behind this San Diego start-up comprise most of the guys who founded and led High Moon Studios, the developer that began life as the US branch of Japanese publisher Sammy and then put out “Darkwatch” through Capcom and “The Bourne Conspiracy” for Vivendi Games, its corporate parent for two years.

Following Activision’s merger with Vivendi Games and decision to downsize or eliminate most of the studios in the Sierra label, it might have been tough for High Moon’s senior execs to stick around (even though the studio did survive). But the chief development officer, chief financial officer, chief creative officer, design director, and executive producer (amongst others), probably could have found jobs at major publishers somewhere. Instead, they put their heads (and wallets) together and headed where the action is: the iPhone and iPod Touch. Appy was founded in the fall and is aiming to release its first games by the spring.

I talked to Paul O’Connor, Appy’s creative director and the former design director at High Moon, about why they decided to aim their sights smaller (so to speak), what the opportunities and competition are like for games on their new platform, and how things went down at High Moon when Activision took over.

Ben Fritz: Were you guys interested in the iPhone before you left High Moon, or did you look around the market at that point and realize that this was the smart place to start a business.

Paul O'Connor: We’ve been interested in it for a very long time. [CEO] Chris Ulm especially has been an evangelist for the iPhone since its inception. He bought one on day one and was convinced it’s the next gaming platform…

Also, we know from being at High Moon and having access to the brain trust at Vivendi that they were not very aggressively interested in this space. Vivendi sold its mobile unit at the end of the year, in fact.
We didn’t have a master plan about moving into this market until fairly recently, but it was always a glimmer on the horizon: “Wouldn’t it be nice if…?”

After the Vivendi acquisition we were focused entirely on shipping “Bourne.” At the tail end of shipping “Bourne,” with the merger underway, we were focused on making sure the studio would survive and have a place in the Activision empire.

Once it became clear that High Moon would survive with Activision and it wouldn’t need a thick layer of management, we asked “what next?” and iPhone was on the top of the list.

 BF: So was the decision to start Appy at that point purely what you knew you wanted to do, or a matter of you being pragmatic as you looked at the opportunities in the market, given how tough it is for an independent developer to sell AAA console games, and so on?

PoC: It was pragmatic, but it helps when pragmatism aligns with what you believe. I would go so far as to say that the iPhone market is the only place where an independent developer can make money right now.

There might be a market for Xbox Live games or ad supported web games, but in terms of a market that’s growing and in which there aren’t any established players, I think the iPhone App Store is it.

Chris is fond of pointing out that you know Microsoft is going to make the best games on the Xbox,
Nintendo on the Wii, and so on. But who’s going to make the best games for iPhone? Nobody knows right now. And many of those other players are in direct conflict. Nintendo has the DS, Sony has the PSP, Microsoft has Windows Mobile. The major players really have a disincentive to get into this space. That opens up the app store for smaller developers.

BF: But some big companies are on the app store and doing well.

PoC: We are seeing larger publishers camping out on the top of those sales lists, like EA. What I see there is an indication that those guys who have got 20 or 30 or 40 years of brand equity, the gamers know their products and are going with established brands.

BF: They can probably afford to treat the iPhone as an experiment, but for you its your whole business. Do you feel like the model is well established for you to make money?

PoC: I worked in the console business a long time and I know there are a lot of hands in the pockets between the final material and the creators of the games. It’s a legacy of the way business has done and its has driven the industry into a crazy upward spiral where it needs sure things and swings for the fences to get big hits.

Activision is in that space and god bless ‘em. They wanted High Moon to tighten down and work on their core brands year to year and that’s just not a place where we were interested in being.

Apple takes their bite, of course, and we’re happy to pay them [Apple takes 30% of all sales on iTunes and the App Store – B.F.]. But still it’s an extraordinary opportunity. What it does is reduce the amount of money you’ve got to pay someone other than yourselves. As a result it reduces budgets and allows you to experiment and try new things you can’t do in a $60 retail game.