HeyZap raises $3 million to distribute casual and social games across the Web

HeyZap announced that they have raised $3 million in funding in a round led by Union Square Ventures. This is in to initial funding from Y! Combinator and a $650,000 seed around, again led by Union Square Ventures.

HeyZap is an example of a company that starts out with one business model and product and ends up with another as the fast-paced casual games business changes. Have they come up with a winning plan around social game distribution or will they have to morph yet again in the future?

Initially, HeyZap launched as the “YouTube of Flash Games,” with the plan of distributing flash games on web sites across the web and sharing the in-game advertising revenue. According to an interview with Inside Social Games, co-founder Jude Gomila said that “casual games didn’t make much money” so they pivoted to social games because of the social graph and their viral nature.

It is true — casual flash games do not have the viral quality of casual social games. And there is a big opportunity for companies to create venues for social game companies to distribute their games beyond Facebook and their 30% cut.

However, I am not sure how switching from flash casual games to social games will change the business side of the question. In both cases, Heyzap has to share revenue with multiple players. For social games, a web site partner that works with Heyzap has to share revenues with Heyzap, the games company, and if tied to Facebook Credits, with Facebook. That’s a three to four-way cut of the revenues! To succeed, Heyzap either needs to partner with Web sites with lots of scale or provide the social game tools and platform to help web sites both make money and grow the scale of their social games community.

This brings up the natural question: can any distribution channel compete with Facebook’s size and social graph? HeyZap’s network of web sites? Yahoo!? Mobile sites in Japan? Anyone?

Personally, I think it’s smart for investors and venture capital firms to place bets on companies like Heyzap to try to solve this problem but am not sure anyone can compete with Facebook in terms of social games distribution. Unless you are Google, Apple, or a social game company like Zynga or Playdom that potentially has scale already, this is going to be a tough opportunity to crack.