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On June 10, the opening day of the 2013 electronic entertainment expo dubbed E3, management for both Microsoft Corporation (NASDAQ:MSFT) and Sony Corporation (NYSE:SNE) explained in detail their companies' respective release schedules and strategies for the next generation of gaming consoles. With a great deal of hype and rumor having been built up ahead of the game developer's conference, a large amount of information was finally revealed and confirmed by the two major video game console manufacturers as well as from third-party game publishers like Electronic Arts Inc. (NASDAQ:EA) and Ubisoft Entertainment. Some of the information was expected and some of it managed to surprise but almost all of it is relevant to the video game industry as a whole and is important to understand.

As a follow-up to my previous article written in anticipation of the E3 conference, this article is meant to explain what the two major console manufacturers detailed to the media in their respective press conferences/presentations about their upcoming game systems, the messages both companies signaled to consumers and the likely ramifications of the two companies' strategies going forward.

E3 Expo

First, it is beneficial to break down the major points touched on by both Microsoft and Sony. The following is list of all major details released by the two companies during the first day of the E3 conference, as well as key information released after my previous article on the matter, followed by my own quick summary/opinion of both companies' strategies (I have omitted a majority of previously released information including technical specifications):

Microsoft and Xbox One:

  • System will release in November 2013 for $499
  • System at launch will include a controller, Kinect device, 500 GB of storage, Blu-ray player
  • Pre-orders for Xbox One at major retailers will enable bonus content for select games, including Ryse: Son of Rome and Forza Motorsport 5, as well as several unique Xbox One collectibles
  • Xbox 360 will still be fully supported and will receive an exterior design face-lift as well as a software upgrade
  • Xbox Live Gold members will receive two free downloadable games per month starting in July all the way up to Xbox One's release in November, beginning with the titles Assassin's Creed 2 and Halo 3
  • Current Xbox Live Gold memberships will transfer seamlessly over to Xbox One
  • Xbox One must connect to Microsoft servers at least once every 24 hours (minimum speed 1.5 Mbps) in order to play any type of video games, Blu-ray and Live TV functions are not affected
  • Used games can be resold at select retailers only, first-party games can be shared amongst a limited number of friends and can be given out only once, third-party games are subject strictly to the business terms/transfer fees of the publisher, loaning/renting games will not be available at launch (a more detailed explanation can be found here)

In general, Microsoft did very well to focus solely on game releases for this presentation, giving even the most vocal critics something to applaud (click here for an up-to-date list of all known Xbox One games). Perhaps the most surprising development from Microsoft was the company's opening act, a trailer reveal for Konami Corp's (NYSE:KNM) Metal Gear Solid 5: The Phantom Pain, the latest entry in a series that has been mainly associated with Sony and the Playstation label for over a decade. The fact that Xbox management had renowned Japanese creator Hideo Kojima on stage to present his latest game signaled that Microsoft was serious in its commitment to deliver blockbuster titles at E3.

In addition to officially announcing the return of the popular series Halo, set to release in 2014, and industry stalwart Forza Motorsport 5, Microsoft did well to introduce many new intellectual properties exclusive to Xbox One. Given the spotlight were promising IPs like developer Insomniac Games' Sunset Overdrive and Capcom's Dead Rising 3, both of which are expected to be available within the system's first year.

Equally impressive was just the way Microsoft went about announcing the Xbox One's future game lineup; team management and third-party developers relentlessly announced new games. One after the other, many future releases were revealed in almost rapid-fire succession as if to silence once and for all the numerous critics clamoring for new and popular titles since the system's original unveil. Overall, Microsoft's game presentation was impressive; the company did what it needed to do on the game front and managed to one-up Sony at the conference in this regard.

One downside of Microsoft's presentation, however, was management's failure to mention and clarify the company's official policy on used games and online connectivity. It seems like a definite missed opportunity to allay growing consumer fears over Xbox One's seemingly overwhelming demand for control, unless of course the company plans on sticking by the policy and has nothing further to say on the matter.

Sony and Playstation 4:

  • System will release in 2013 holiday season (still no exact date given) for $399
  • System at launch will include DualShock 4 controller, mono earpiece headset, 500 GB of storage (which is upgradeable), Blu-ray player
  • Playstation Plus service is required for online play, single-player games do not require a subscription
  • Current PS3 memberships will seamlessly transfer over to PS4
  • PS3 and PS4 owners will be able to access/stream a library of PS3 games over Sony's Gaikai cloud service, program will go live first in The United States in 2014
  • PS4 does not require an online connection to play video games, only to play online multiplayer
  • PS4 will allow consumers to buy, sell and loan all disc-based games without any restrictions by Sony, retailers or publishers

Sony's conference was also well done, although it seemed like a bit of a letdown compared to the company's surprisingly strong system unveil. Even so, the company's focus on games was readily apparent once again as unveils of popular game titles like Bungie's Destiny and Ubisoft's Assassin's Creed 4: Black Flag were received very well (click here for an up-to-date list of all known Playstation 4 games). However, most of the titles announced were ones that were already known about beforehand and overall Sony's press event did not have the same surprise factor that Microsoft's had with regard to game releases, which was somewhat expected as relatively little was known about Xbox One's game lineup prior to E3 compared with PS4'S lineup.

However, Sony stole the show and maybe even the edge at system launch with management's final few announcements, which seemed designed to undercut Microsoft on almost every level imaginable. CEO of Sony Computer Entertainment of America Jack Tretton announced, to great applause, that the PS4 would not impose any restrictions on used games at all, which is in stark opposition to Microsoft's stated policies. CEO Tretton explained, "When a gamer buys a PS4 disc, they have the rights to use that disc. They can sell it to another person, lend it to a friend, or keep it forever."

Additionally, in another shot at Microsoft, management explained that the PS4 system does not need to connect online in any way to allow users to play single-player games, which is again in direct contrast to Microsoft's stated policies. CEO Tretton further explained via direct comparison to the Xbox One, "If you enjoy playing single-player games offline, PS4 won't require you to check in online period, and it won't stop working if you haven't authenticated in 24 hours."

Finally, towards the end of the two-hour presentation, management released the long-awaited price point for the Playstation 4. At $399, PS4 will retail at $100 less than the Xbox One, or 20% cheaper. It should be mentioned that Xbox One ships with a Kinect motion camera device, which is expected to retail for over $100, while the PS4 does not include the company's Playstation Eye motion camera, which is expected to retail at $60. Still, the PS4 will have yet another advantage over the Xbox One at launch, a much more attractive price point.

The Message to Consumers

My early impression of Sony's Playstation 4 is that it is a logical and incredibly well executed evolution of gaming. Every new feature, from the system's cloud-based game offerings to its impressive social integration/game sharing capabilities, indicates that the PS4 was built from the ground up to be a gaming consumer's console of choice. The extra media features, which are plentiful and include all of the already available streaming services on PS3 (Netflix, Amazon Prime, Hulu etc.) but also Redbox Instant, Flixster and exclusive Sony content, are meant to be just that, extra.

It is clear that Sony is targeting consumers who are interested in purchasing a next-generation console primarily to play video games. Through the layout and design of the company's two biggest press conferences and various news releases, most of which focus on games first and foremost, and its decidedly pro-consumer stance on used games and digital right management, Sony has made sure consumers know that PS4 will be the cheapest and most dedicated next-generation 'gaming' platform available. This is an approach that has garnered overwhelmingly positive reactions from the gaming community so far but will it translate into more sales of the system for Sony? I think it will and Amazon pre-orders indicate as much but only time, and Microsoft's potential reactionary response, will be able to tell for certain.

Microsoft's Xbox One is a different beast entirely and is more along the lines of an evolution of home theatre entertainment in general than just mere gaming. Microsoft is attempting to do much more with its new system than any other console manufacturer has done before and the results have the potential to transform the way viewers consume media in general. There definitely seems to be more potential with Xbox One in terms of long-term progression and evolution of technology than there does with PS4.

However, what I took as a mere publicity error on Microsoft's part a few weeks ago seems to be developing into much more. The company's attempt to win over casual gamers and consumers interested more in the advanced media integration of the Xbox One is understandable but not without risks.

Will admittedly fancy advancements in things like live TV integration and Skype connectivity be seen as drivers for a $500 console or just added bonuses to purchasing a video game system? In either case, it can't be ignored that just over a year ago it became apparent that increasingly large amounts of Xbox Live users are streaming more on Xbox than they are gaming and this trend is no doubt in part what is driving Microsoft's expansive push to widen its target audience. The key question then becomes, why do most consumers choose to purchase a next-generation video game device in the first place, to play games or to view various media formats all at once? I lean towards the former, primarily based on real life experience, but this is a difficult question to assess.

Another growing concern is that management at Microsoft seems content to vastly limit consumer control over purchased games on Xbox One and lose part of the company's core audience in the process, an audience that took Xbox 360 over seven years and over 70 million shipped units to achieve. A drop in the core Xbox audience also means a drop in revenue generated from each game, particularly for first-party exclusives, and translates to fewer Xbox Live users, which in turn means fewer subscriptions and fewer people consuming content via Xbox Live.

There will always be fans that prefer either Microsoft or Sony's first-party games and those consumers will likely remain loyal to their preferred brand. However, the consumer looking to play popular, multiplatform titles Electronic Arts' Madden series or Activision Blizzard, Inc.'s (NASDAQ:ATVI) Call of Duty series will most likely choose to purchase the cheaper and less restrictive gaming console that allows them to do so, which is definitely Sony's Playstation 4.

What made the current Xbox 360 such a great device, as well as the best-selling current-generation console in The United States, was that it successfully struck a cord with both core gamers and casual users. Accordingly, over the last seven years Microsoft has been amply rewarded with a top position in console market share. However, the current dynamic is about to shift for Microsoft with the potential loss of part of the Xbox's core gaming audience and this looks set to negatively impact Xbox's pole market position and give Sony and the Playstation 4 an early edge.

The GameStop Effect

Microsoft's decision to impose restrictions on the used game market as it pertains to Xbox One is a move that will impact more than just consumers; the entire industry in general will be affected. However, the decision will most negatively impact retailers like GameStop Corp. (NYSE:GME), which generate large portions of their business from the second-hand video game market.

By my last measure GameStop derived approximately 28% of its net sales and over 50% of its profits from used games. Gross margins on the sale of used games is also significantly higher than that of new games, 47% versus 21% according to Forbes, and as such used games represents GameStop's most important business category. Therefore, the company, and others like it, remains dangerously exposed to changing dynamics in the video game retail structure. Fortunately for GameStop, Sony is allowing the used game market to thrive on its upcoming PS4 system and confirmation of the decision's importance was given when shares of GME proceeded to rally over 7% after the announcement.

However, all is not solved merely by PS4's inclusion of used games. Conservatively, I estimate that Xbox sales make up 25% of GameStop's used game revenue. If we are to assume that current console market share will remain at least similar to what it is now for the next few years then it is safe to assume that Microsoft's attack on used games still has the potential to hurt GameStop significantly. The overall effect on retailers is also dependent upon whether third-party publishers actually carry out the restrictions Microsoft will allow them to enforce on the Xbox One.

Conclusion

It is an exciting time for the video game industry as a whole. After a terrible couple of years for hardware and software sales, due mainly to an unusually long console generation, the industry is set to bounce back in 2014 with an influx of new technology. However, there will most certainly be winners and losers in the next generation and we as investors have to think reasonably about which companies are best set to succeed.

Since it is relatively common for console manufacturers to lose money or break even on new video game systems, neither Microsoft nor Sony is probably too concerned with profiting from initial system sales in 2013-2014. However, both companies are certainly interested in gaining an early lead on the competition and building momentum for the entirety of the next generation life cycle, as it is early success that has historically translated into a win for console manufacturers.

Sony still has the momentum after both companies presented at E3 (based on numerous media and fan reactions as well as Amazon pre-orders) and may have even increased its lead by contrasting the Playstation 4 so drastically to the Xbox One in the eyes of the consumer. Meanwhile, Microsoft is still having trouble shaking the bad press it's been receiving in the gaming community as of late and may have even set its gaming strategy back with its persistence on limiting and controlling more aspects of the consumer's gaming capabilities and purchasing options. Unless Xbox One appeals massively to casual gamers and people interested in advanced media/social integration, Sony is set to regain the lead in the impending console war at Microsoft's expense.

Source: Sony To Microsoft, Game Over?