XBOX-HQ.COM - MS Analyst: '360 Demand Will Remain

Matt Rosoff, a lead analyst with Directions on Microsoft, an independent firm devoted solely to tracking Microsoft's business trends, tells Next Generation why he thinks the Xbox biz is better than recent reports suggest.
With supply issues that could last through the next three months, a retraction of initial 90-day shipment targets and underwhelming performance in Japan, one may assume that the Xbox 360 is in poor standing. However, Directions on Microsoft's Matt Rosoff thinks the company's Xbox business will be just fine in the long run. Perhaps even better than "just fine".

"Consistently profitable" in five months

In fact, Rosoff expects that Microsoft's Home and Entertainment division, which reported a $293 million loss for the most recent October-December quarter, will be in the black within months.

"Microsoft said that the Home and Entertainment business unit, which includes Xbox as well as Microsoft TV platforms and other hardware (keyboards, mice) and consumer software (Money, Encarta, Mac) will be consistently profitable by fiscal year 2007," Rosoff said. "That starts in July 2006 - a mere five months from now. Looks to me like they have a good chance of getting there."

Rosoff went into detail about his reasoning. "First, component costs will come down over time. Second, attach rate for games and hardware peripherals, both of which are profitable, is quite high - around four each. Third, Xbox Live subscriptions - giving a free level away was a great move, it'll get people excited and convince them to sign up for the Gold level for head to head gameplay. Finally, taking a cut of material sold through the Live Marketplace will help. I think we've only seen the beginning of that service - today it's mainly game-related downloads, but I could see Microsoft offering content, like digital music and video, as well."

He continued, "So what happens if they miss? Wall Street grumbles, and perhaps the stock takes a hit, but it's not the end of the world for Microsoft. Look at their latest business results, note the growth and profit margins on Client (Windows desktops), Information Worker (mostly Office) and Server and Tools (Windows Server, SQL, Exchange, etc.). Those are amazingly strong businesses in terms of absolute revenue, margins, and growth. So as long as the core businesses remain strong, Microsoft can afford to invest in emerging businesses."

A two front battle

A recent BusinessWeek article stated that Microsoft has assembled a team to measure the feasibility of a handheld games and media player. The DS and PSP have proven successful, but taking that success into consideration, is there any room for yet another handheld? Rosoff not only thinks that Microsoft could pull it off, but believes the company may have to jump in whether they want to or not.

"They did a good job, against the odds, entering a crowded console gaming market with many past casualties (Sega). So why not again? Plus, they might have to - the iPod is running away with the market now, and that's a threat to the Windows Media Platform. Microsoft doesn't like threats to its platforms."

Rosoff is correct that the Xbox didn't become a console casualty, but the PS2's installed base eclipses the Xbox's by a wide margin. That will change during the new generation, as long as Microsoft can get its act together, according to Rosoff.

"The winner of the console battle is hard to predict," he said. "It depends on PS3's launch date and roster of games and depends on whether Microsoft can ramp up production of 360 and stamp out bugs. I'll go out on a limb and say that five years from now, Microsoft and Sony will be neck and neck in terms of total overall console game sales - which is way more than you can say today."

However, as the weeks go by with nary an Xbox 360 on the shelf, one has to wonder how long excitement for the hardware can last before anticipation turns into apathy. Rosoff believes that consumers will still care about the console once supply issues are ironed out, even as PS3 details slowly begins to emerge.

"I think demand will remain high," he said. "If anything, Sony's PS3 launch will give MS another burst of free publicity - everybody will be talking about the 'battle'. If Sony had launched first again, Microsoft would have been in a weaker position."

Marathon strategy

Xbox head Peter Moore has reiterated that the Xbox 360 strategy is more of a marathon than a sprint. Rosoff believes the company's console business is here to stay, and is intended to lead to bigger and better things outside of gaming.

"Microsoft has strategic reasons to be in the Xbox business beyond the next quarter or year's financial results. It's also a way to get a presence in the living room, which can later be used to sell other products and services. Microsoft's been after a bigger share of the consumer market for years - most consumers buy a Windows PC every few years, at which point Microsoft gets a couple hundred bucks, and that's it. Xbox is their most successful consumer effort so far (beyond Windows), so I think they'll stay at it for a while."

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