There's multiple aspects of this story you can tweak such that the business becomes successful. Pick any one of them:
1) There is an extraordinarily lucrative market opportunity in iDevice contracting right now, which they allude to but mentioned that they avoided doing to keep momentum. Giving that living on a couch is presumably not momentum-enhancing, a two week consulting engagement would buy them another 6~24 months of runway at their imputed burn rates.
2) A platform/language/etc is not a death-til-us-part commitment. You can follow the money. Independent developers are not best served by the App Store, unless they get ridiculously fortunate with regard to its kingmaking economics. If you only have one chance to develop an application, you would be better served by developing for a platform where the median case pays the rent.
3) Don't develop video games. You're competing for the business of toxic people who hate paying money against the union of well-funded corporations (which have high production values and effective, ruthless monetization) and amateur hobbyist artistes (who have "that vision thing" and are willing to starve to deliver it for free). Try making something for more lucrative markets like, oh, businesses.
4) You may have deep psychological issues with comfort about charging people money. They seem to be fairly common in our community, which is unfortunate, and we seem to actively promote them, which is unfortunate++. You should first recognize that you are creating something with value for people (if not, stop) and then come to the immediate realization that, as a business, people trade value for money. (If you desire to do charity work, do it for more deserving people than gamers with iPhones and entitlement issues... and you should probably do it after having secured your ability to deliver on obligations to your family.)
5) If you've got a budget of 100 awesomeness points or focus points or whatever, spending 90 on your software and 10 on your business will have much worse results than spending 10 on your software and 90 on your business. Having people who can concentrate 100% on building software is a wonderful thing. They're called "employees" and they cost about $10k to $20k a month; you can pay for them after you've got a business. If you desire to work 100% on software, you desire to be an employee.
6) Burying the buy button three screens behind Settings: probably not ideal for conversion rate maximization.
7) Maximum customer LTV of $2.99: also not ideal. Consider anything you can do to increase this, for example, offering upsells on top of the base offering, cross-selling them to other things in your portfolio or things from others' portfolio for a percentage, or developing a permission marketing asset such as an email list. Some of these are very not viable on the App Store but I think I already gave you the advice for that.
8) If you sell X, look at the tactics used by successful sellers of X. If these tactics strike you as morally outrageous, don't sell X.
These guys want to make video games. Maybe that's enough to make it work and maybe not. Time will tell. But by the logic of #3 we should all just do whatever puts money in the bank. That argument quickly devolves into a lot of would-be entrepreneurs sulking back to jobs they vowed they would learn to live without or building companies that are temporary money making opportunities, not something worth the devotion required.
Most importantly, these kids are making games with traction -- 200k downloads in a week is very, very good, especially since they don't seem to be that focused on actually marketing their games. That means they've got some special sauce. Tweaking what they have to bring up conversions is a solvable problem. Finding pizza money is a solvable problem.
If they're broke and people are playing their games then that means their customer acquisition costs are basically zero (since they don't have any money for it anyway). They don't have to get conversions up that far to turn an acceptable profit (especially since these guys apparently live on peanuts).
"You're competing for the business of toxic people who hate paying money" -- that's simplistic to say the least. I don't want to bother to dig up numbers but plenty of money is spent on games on mobiles and everywhere else. If you want to generalize that way you might say that about the whole mobile "app" market and the drive towards free or $.99 -- people expecting a lot for nothing -- yet it's still a thriving industry. If you're talking about the freemium or f2p model (in apps or games) it's not like the concept was invented by Zynga. The fact that freemium works was discovered -- it's a model the market supports and supports well.
"Well-funded corporations (which have high production values and effective, ruthless monetization)" -- high production values, especially on mobile where AAA graphics and open, 3D worlds aren't possible or even desirable, is not the issue it is on the consoles and PCs. Plenty of successful games are relatively simple 2D and have limited content. High production values in those cases can be measured in thousands of dollars, not millions. Ruthless monetization? What difference does that make in terms of competition, especially since we're talking about "well-funded corporations?"
If you're not that familiar with the market, pick up a big EA title and then play something like Tiny Wings. Which one was more fun? What do you think their comparative budgets were?
The "big corporations" -- EA et al I guess you mean -- were slow to move to this newest mobile market and have had a hard time making games people really like. They make up for it with marketing spend, but it's not like people aren't playing games like Tiny Wings because they can't pull themselves away from Mass Effect: Infiltrator.
If you mean mobile publishers like Chillingo et al then there's absolutely nothing stopping these guys from having a publisher like that pick up their game. There are pros and cons to doing so, but I doubt these guys would have any problem finding a publisher with the number of d/l they're getting.
"And amateur hobbyist artistes (who have "that vision thing" and are willing to starve to deliver it for free)." -- I'm not sure who these people are, but if you mean part-time developers flooding the market with low quality, free games, that only hinders visibility in the app stores. App store visibility as a sales tool was a fluke of the birth of these app stores and is now gone, never to return (although people are still seeing those effects in the Android markets). The amateur, as in most markets, has very little effect on the market as a whole.
If you're talking about developers with vision -- say the developers of Braid or World of Goo or say Notch -- these people don't work for free or hurt the industry. I'd say they elevate the entire state of the industry and turn more people onto games.
These guys should definitely learn the business side of what they're doing but it sounds like they absolutely should not stop making games.
>These guys want to make video games. Maybe that's enough to make it work and maybe not. Time will tell. But by the logic of #3 we should all just do whatever puts money in the bank. That argument quickly devolves into a lot of would-be entrepreneurs sulking back to jobs they vowed they would learn to live without or building companies that are temporary money making opportunities, not something worth the devotion required.
I'm all for taking a smaller paycheck, or running a business that pays below your market salary, to do what you love. If you're only putting yourself out, and you can keep it up, then by all means live in a shack, or your car, if you prefer that to what you would have to do to earn more.
But at the point where you're taking money from your parents, relying on your friends' hospitality and giving them nothing in return, you have failed; give up and go get a real job.
> 1) There is an extraordinarily lucrative market opportunity in iDevice contracting right now, which they allude to but mentioned that they avoided doing to keep momentum.
The money in the App Store for the vast majority of developers is not from the App Store directly but from building apps for organizations who want to be in the App Store . Sometimes it's just all about influential/powerful people and their ego . Yes, the apps have to look good (but Apple makes it easier than Android to make apps look good - remember the bar keeps going up and up).
As a sub-contractor, we would handle everything from the initial Apple developer account (for the company) to TestFlight betas to code/content updates. Complete outsourcing. The customers never know (or care) that XYZ company/national non-profit or Fortune 500 brand isn't writing their own apps - they just see "XYZ Brand, updated 08-Mar-2012' in iTunes.
 I recall a conversation once with a museum marketing person. They were basically like 'Well, did you look at the MoMa's app?'. I tried to remind them that MoMa has a basically unlimited marketing budget to spend on slick, polished apps - but they all want to bragging rights - for the museum president to be able to show his/her peers (other museum presidents, board members) the app. Really.
Your anecdote reminds me of a summer internship I did for a mid-sized financial firm a few years ago. I was "officially" hired to work on the mobile web team which I quickly found out consisted only of me: the college intern.
I actually ended up working on a completely different project but I had to periodically build a useless calculator using jQuery Mobile in the corporate colors and present it to our completely useless VP of IT.
He had sold the company's leadership on the absolute necessity of a mobile presence, that this effort needed to be completed post-haste and how it would dramatically increase sales (most of the company's business was selling insurance to other financial firms, almost no consumer products in their portfolio).
In my first meeting with him he told me he wanted "MSN Mobile for an insurance company" and offered no other instruction. He literally pulled up m.msn.com on his iPhone and said to make a version of that as their mobile presence. After that meeting I just hid in my cube and laughed for a few minutes. That was when I realized what a farce this effort was.
Basically the entire development team knew how pointless this was but the VP had sold it to the rest of the execs and now they needed to build it. No one wanted to put in the effort. The created the internship position so they could foist the actual coding off to an unsuspecting college student (me) while actually having him work on an unrelated but useful project.
Didn't learn much about coding (VB.NET, ugh) but the experience in how a bad company works? Invaluable.
Have you considered that maybe these guys want to develop iPhone games? Telling them that all they have to do to make more money is simply stop developing games, and choose a different platform might be true, but it's not very helpful if they want to live their passion.
Patrick gave a handful of ways they could have tweaked their business model to improve the bottom line. Not developing iPhone games was just one of them.
They wanted to live their passion and they wanted to support themselves off the app. ("We wanted the game to be free but also we want to make a living off of it since we’ve spent 2 years on it.") But they only fought to service one of those goals.
Thankfully, most of us here on HN do things where our passion is something that has enough monetary value to support a family. But nonetheless, "live your passion" is just bad job advice. "Find a way to make your passion work" is much better.
This... Mike and Greg are definitely game developers first and businessman second (or 3rd, or 4th or whatever).
"amateur hobbyist artistes (who have "that vision thing" and are willing to starve to deliver it for free)" - I'd say that Mike and Greg are already in this category. If you check out their site (http://mikengreg.com/), you'll see that they release most of their stuff as free. They live in Iowa because it's cheap. They want to be able to make their own games and not starve or be homeless while doing it.
Software isn't necessarily the best way to make money period, if all I cared about was money I'd rather be managing a hedge fund or something.
Great post, especially number 5. The only thing I would add as as corollary to 8, is to not assume that you know more than the market. Maybe you do know more and your product will revolutionize the industry, but have a backup plan. Even if that backup plan is going broke and starting over. Living the dream is romantic, but you can't eat romance.