Sony's Big Blu-Ray Gamble

Research firm iSuppli has reverse engineered the PS3 and has estimated that it will cost Sony $805.85 - $840.35 for each unit sold. With Sony (SNE) pricing the console at $499 and $599 depending on the model, it means that they will be eating a loss of between $241 - $306 every time someone upgrades to their new console. Ouch, don’t expect Sony to respond to the console price war in the near future.

While subsidizing hardware in order to sell higher margin video games is an old trick in the console industry, it’s worth noting that the loss that Sony is takin, is three times what it cost Microsoft (MSFT) to subsidize the Xbox 360 and they even sold the 360 at a lower price.

In looking at the breakdown of where the expenses are coming from, I couldn’t help but notice that the bulk of this cost comes from the $125 charge that they are paying for their Blu-Ray optical lasers. The PS3 has been Sony’s biggest reason for convincing the studios to extend the current HDTV DVD format war and with a shortage on the Blu-Ray diodes, I doubt that the studios will be very happy when they see that there will only be 150,000 - 200,000 PS3’s released at the launch, according to some estimates:

Are you kidding me? Are blue ray diodes grown on a remote mountaintop in the Himalayas retrievable only by tiny faeries on unicorns? It must be because 400,000 PS3s is now 150,000 - 200,000 PS3s. Lazard Capital Market’s analyst, Colin Sebastian, surmises as much based on retail numbers.

Whether Blu-Ray is being made by magic unicorns or Sony engineers, incorporating Blu-Ray technology into the console was a huge and unnecessary risk for Sony to take. In their attempt to monopolize control over the future of the DVD, they’ve alienated home theater enthusiasts and have frozen the development of the only thing that might extend the dominance of the DVD by another 10 years. By making every customer purchase a Blu-Ray drive with their console, it will not only cost Sony millions of dollars from delays, but as iSuppli demonstrates, there is a very real hardware cost involved as well.

The irony of all this is that many of the hardcore gamers who are already waiting in line, hoping beyond hope to get a console, will lack the necessary HDTV equipment to even utilize this feature in the console. With the European launch delayed until March, I can’t help but wonder how much more time the studios will give Blu-Ray, before they realize that Blu-Ray won’t be the money maker that they had hoped.

There is no reason why Sony couldn’t have licensed their films to Blu-Ray and HD-DVD and let consumers decide which was the superior format. Had they done this, they would have had enough PS3’s to satisfy this year’s holiday demand and they could have still included an add on Blu-Ray drive for consumers who would prefer their technology.

While the thought of watching high resolution DVDs on my big screen TV holds tremendous appeal, you can bet that I won’t be investing in any technology that has the potential to be obsolete within a year. It’s still possible that the PS3 could pay off big time for Sony and that their Blu-Ray support could be the straw the breaks the HD-DVD back, but considering that their insistence on including the technology is going to put them a year and a half behind the Xbox 360 in market penetration and that it’s significantly added to the cost, I think it’s a gamble that will end up costing them even more their Betamax fiasco.

Disclosure: Author has no position in stocks mentioned

Comments

[Lee Chen:]

If you are losing so much money per console, you want to control the number of consoles sold to contain the loss. Sony will continue to control the number of console sold until the blue ray price dropping to a significantly lower price than it is today - it could be a 12-month process.
It is clear the real hard core gamers prefer PS3 vs. Xbox 360, Xbox 360 is not moving at all in Japan and it has not really generating enough true followers with big revenue for MSFT.
The real story for SONY is: can PS2 continue to sell in huge quantity before SONY finally be able to cut the cost of PS3 and to sell PS3 in even larger quantity.
It is not PS3 vs. Xbox 360; it is PS2+PS3 vs. Xbox+Xbox 360. As long as Sony can maintain 3 to 1 advantage over the next 12 months, Sony is still the king. We should expect PS3 will have lower enough cost for Sony to push for the volume of PS3

2006 Nov 16 03:26 PM

[carleast:]

I agree with Lee that this is not a PS3 vs XBox 360 war. The Xbox has proven that it hasn't got what it takes over the past year. The only thing that could give it a chance was if the PS3 was a real let down. But Sony have ensured that it won't be by making it much more powerful and including the Blu-Ray drive. And this is where I don't agree with the above article. Rather than it being a bad decision to include Blu-Ray I believe it's been a great decision that although has cost them time and money it will eventually pay off. Even if a number of these people buying the machine don't have HD capability what do you think is next on their shopping list? Nonetheless, I expect most early buyers of the PS3 to be young adults who potentially already have a HD TV or have the money to buy one.

I am absolutely convinced we are not seeing another DVD-A vs SACD battle that will end in two losers. I'm sure Blu-Ray will work. I wasn't so sure a year ago but I am now. HD-DVD may also work if you get universal machines but I expect one winner to be honest.

It is for this reason that I disagree with Lee when he says that Sony will stagger the release of the PS3 over the next 12 month in order to minimise the loss on the machines. I believe they'll try and churn these puppies out as fast as they can. Not so they can beat the Xbox 360, but so they can beat HD DVD.

I'm loving Sony's strategies right now. They're doing well on the Bravia LCD front, the PS3 front, and the Blu-Ray front. After years of freefall (with the exception of the PS2) Sony are back in the driving seat and they've got everyone running scared.

2006 Nov 17 06:04 AM