Microsoft Bets On The Cloud To Enhance Xbox

| About: Microsoft Corporation (MSFT)

Microsoft (NASDAQ:MSFT) unveiled the new Xbox this week, the Xbox One, and the first thing that everyone jumped on was how much less powerful the SoC built by Advanced Micro Devices (NYSE:AMD) was compared to that of the one designed for Sony's (NYSE:SNE) next generation PlayStation. Add to that the generally underwhelming hardware, and overall it was hard to escape the sense of being underwhelmed by it all. Microsoft's marketing department worked overtime this week explaining to everyone how the Xbox would cope with this discrepancy in power and the question that remains is how it all plays out. But, one thing is for sure, Microsoft expects the Xbox One to rely heavily on the cloud to enhance those mediocre specs.

In the end, it is fairly obvious that Microsoft was looking to move the Xbox to a different direction from the previous generation and needed to keep the bill of materials down as low as possible while building a device that would be a more flexible and integrated part of your living room versus a hardcore gaming box. If it has done this and puts the device out at a price that is irresistible to consumers in terms of value, it will have a winner on its hands.

We only need to go back to Nintendo's Wii to see what would be in front of us.

Head-in (TO) the Clouds

Cloud-based real-time gaming is a non-starter in its current form. Latency is simply too high to make it work. There are certain things that are physically immutable, like the speed of light and all that. So, the idea of playing a first-person shooter competitively with a cloud connection doing most of the calculations in real-time is ludicrous. This is common knowledge. Or is it?

In an interview at Ars Technica, General Manager of Redmond Game Studios and Platforms Matt Booty talked about how Microsoft is planning on offloading non-latency sensitive calculations to the cloud. He used the example of atmospheric effects. Shadows and environmental effects would also be on the table. Calculating these things - some of which are the most computationally intensive - in the cloud would be a help.

The problem, however, is that this is not a specific advantage to any one vendor as these operations could be added to any gaming system. If Microsoft can do it with the Xbox, then Sony should be able to do it with the PS/4 and still retain its potential performance advantage afforded by its more powerful APU. The devil will have to be in the details of how all of the disparate system components - APU, Kinect, memory architecture and operations pipeline width - interact to achieve overall performance and how developers take advantage of them.

Talkin' a Big Game

But, that said, Microsoft is expecting unit sales to exceed those of the Xbox 360, which it still plans to sell and push into living rooms in good numbers. And, again, with the modest specs of the total unit and the new Kinect sensor included as part of the base package, the potential is there for Microsoft to price the Xbox One very attractively. If Microsoft is still able to command CPM rates on the Xbox home screen that make literally every other advertiser green with envy, then this would also support the notion that part of this Xbox's cost will be amortized over the life of the unit and subsidized at point of sale.

This is one path to their goal of selling hundreds of millions of units, the company's stated goal. It will not do so after this lackluster introduction, however, if the value proposition is harmed by an expensive launch price. Xbox is not in the same position as Microsoft's mobile strategy - Surface and Windows Phone - as it is a serious contender to be the market leader. A mistake in how the Xbox One's launch is handled will undermine the momentum that is beginning to build with Windows Phone and Nokia's (NYSE:NOK) Lumia lineup.

In every way, the Xbox One may be more important to Microsoft's future than Windows 8.1 or Office 365. So, the strategy of downgrading the overall gaming performance and opting for a better-rounded console is risky, but that is one of the things that has made Microsoft an interesting company for investors for the first time in years - its willingness to take risks.

Not all of those risks have worked out but it is clear that the company still reflects CEO Steve Ballmer's ethic of revenue maximization over innovation. Since gaming has not been the driver of previous Xbox profits the design of the new device makes perfect sense.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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