By the very nature of DLC, the content available in DLC must go down, meaning less bang for the buck. If only five hundred people buy the DLC @ $5.00 you will have (at most) 2,500 dollars to spend on its development. If one thousand buy, you will have 5,000. You lose the scale of economy. How do you convince 10,000 people to buy (for example) your New Pony Models Superpack? Does that market even have 10,000 potential customers?
I'm not a fan of DLC, but this point has a flip side: developers can become more responsive to the people actually paying for the game (rather then the loudest people on the forum). Cosmetic enhancements are great DLC because they don't affect gameplay, they're not something you can sell as a full blown expansion without being shredded by reviewers and your forum goers, and they are VERY popular with some segments of the playerbase.
Stuff like companion pets in WoW, different armor skins, guns with super crazy laser effects, shiny new models, and so on. If 1000 people buy it for $5, you get $5000. If it took one employee a week to make it, you're both well in the black and putting out something that your customers either enjoy, or aren't negatively impacted by. That also gives you money to make more of that kind of thing. You know when to stop when it stops selling, and the risk is far lower then spending 9 months building a huge expansion.
Contrast with how active communities will almost uniformly adopt generalized expansion packs. Expansion packs can extend the life of the core product (nobody goes out and buys a game because "that DLC looked so awesome") and can leverage greater inroads into the market with physical store space, media buzz and critical reviews. At EOL, they package well into "gold" packages. Those warchests from Blizzard are still selling thirteen years later.
There's also a much greater cost in making a large expansion, and if you put it out too soon you can alienate customers (or too late and they'll be gone by time you are ready to ship). The expansion model is better when you're changing game mechanics then DLC is with the way DLC is handled right now, but it's a model based around the premise of shipping disks in boxes to stores and that isn't really true anymore. We can do it better.
1) It needs a core product with a long life. Without expansions, DLC has a very limited time period in which it can make reasonable conversions - as soon as players are ready to move on, that DLC will be selling poorly.
Absolutely, and also true for modding and expansions . Getting the base game right is EVERYTHING. If people don't like that, nothing else you do will matter.
2) The reason to purchase DLC must be generalized and compelling. Niche market DLC will see poor returns, and harm the image of the DLC if the niche product is needfully sparse or lacking in content. Lessons can be learned from companies that have DLC strategies and seeing the iterations they have been through. Bethesda has tried:
small collections of items that might interest a player such as spellbooks and horse armour. They found they would sell, but only to a small number of people.
special "player homes," which offered advantages to larger categories of players. They found the market for these was small, but better than collections of unimportant items.
New quests, which offered "more of the same, but special" additions to the gameplay. These sell well, because the content they add to the game is what people bought the game for in the first place. In other words, they have potentially 100% interest level in their target market. You can see now that "quest additions," in the adventure genre is now Bethesda's primary output as DLC.
This will depend on a lot of things, but mostly on the type of playerbase you have. Bethesda's games don't lend themselves well to "horse armor" because only you see it, and it's not a game you're going to repeat a bunch of times. Their pricing also wasn't the best on that. Blizzard sells entirely cosmetic stuff for WoW and they sell hundreds of thousands of units.
The difference is that in WoW I can buy it once and keep using it for years, and other people can see it. It's a game with players who care a lot more about their character's appearance (and not just on the high end, good looking clothes that are entirely non-functional in combat are popular items to farm and craft for).
3) Maximizing conversions is also essential to DLC success in an market where new material has a high cost of production. Contrast this with online Korean social communities where a smattering of 2D 16bit art is a viable product.
Lowering the cost of production matters too. Tools help with that, if it's easier for your design team to create quests, you can either put out more of them or charge less per (and get more buyers). It's hard to lower the cost of new art asssts, which is why you see so much recycling.
4) Multiplayer and DLC presents unique challenges.DLC can easily divide online communities into the have and have-nots; a problem further exacerbated when there are multiple DLC products. For example, a recent space strategy game was released with two DLC products, both of which changed the gameplay in fundamental ways. This divided the online playerbase considerably: players who had the base game, players who had the first DLC but not the second; players who had the first and second, and players who had the second but not the first.
DLC has the potential to divide online communities. The more there are packages of DLC that make versions of the game that are incompatible with each other, the more divided the community will become. Dividing small communities will kill them; and killing game communities will harm DLC sales over time.
Yeah, it's definitely harder in MP. I don't think you can sell game mechanics changes as DLC, and you really can't do it like they did with different permutations. If they added a third one to that model it'd be so complicated as to be a disaster.
Expansions pose the same problems though, and it's only really gotten around because the expansion eventually becomes mandatory to play otherwise you can't find any players (because everybody else has the expansion).
That one is hard to solve.