3 Video Game Console Makers - 1 Winner

By Michael Carter - September 6, 2012 | Tickers: MSFT, NTDOY.PK, SNE | 0 Comments

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I remember there was a time where I would be leaving karate practice (yeah I was one of those kids) and next door would be the video game shop named Starland.  It is an independent shop that had all the latest games out.  The place would always be crowded in the evenings and all I wanted to do was play the video games there after practice.  Notorious BIG once said “Super Nintendo, Sega Genesis, when I was dead broke, man I couldn’t picture this.”  I don’t think anyone could picture what video games would be like 15-20 years later.  Sega stopped making home video game consoles in 2001, Atari released their last console in 1993, NEC had a brief run with the TurboGrafx-16 in 1989, and numerous other smaller companies like SNK have come and gone releasing their own video game consoles.  Today the video game market leaves three standing and includes a traditional computer software maker famous for the Windows operating system – Microsoft (NASDAQ: MSFT), a traditional consumer electronics maker famous for the Walkman – Sony (NYSE: SNE), and the last long-time dedicated video game company existing – Nintendo (NASDAQOTH: NTDOY.PK). 

Arcades and Breaking Even

Public arcade’s actual decline started years before the internet as their current decline started in the mid-1990s with home consoles having the technology to bring the arcade experience into living rooms.  The rise of the internet at the turn of the 21^st century only further pushed the arcade business further down the food chain.  Places like the famous Chinatown Fair arcade in New York City that once was packed with hardcore gamers were closed recently only to be reopened as lower tier versions of Dave & Buster’s entertainment centers.  The arcade I used to go to where I grew up was a popular tournament spot on the East coast and that closed several years ago.  The business simply isn’t profitable for public arcades when you factor in leasing the space, the overhead that includes arcade cabinets, maintenance of machines (joysticks take a lot of beating and are actually very expensive to replace), cost of game licenses, and employees.  When you think about it, it takes a lot of quarters to just break even.

Speaking of breaking even, that is not something that Sony has done so well in with their Playstation franchise.  Sony is infamous for selling their Playstation 3 (released in late 2006) for $499 when the combined materials and manufacturing costs for each system was over $800 for the 20GB hard drive version.  By comparison, the Xbox 360 (released in late 2005) was sold for $399 when the cost for each system was only $323.  It is actually common for video game console makers to sell the console for a slight loss with hopes of publishing game titles that become blockbusters later on to generate the real revenues.  However, Sony in recent years has gone somewhat overboard on this business model. 

Internet Killed the Video Game

Social media outlets like Facebook and Twitter, streaming video sites like YouTube, and free internet games sites are some of the big reasons why video games are dying.  There are only 24 hours in a day and that will never change.  If people are spending an hour here and an hour there posting updates of what they are doing, chatting with friends across the hundreds of messaging sites, uploading pictures or videos, or staying up-to-date on their personal video blogs, that leaves less time to invest in video games. 

Additionally, the video game console makers and video game publishers are under a lot more pressure today than they were in the 90's where people relied on their friends or the store clerk to give them advice on what games to get.  Yes there was GamePro magazine along with many others that gave information and in-depth reviews of games, but that isn’t even close to the amount of information available today on the internet from places like IGN. 

If a picture tells a thousand words, a three minute review video on a new video game released tells a billion words. Video game publishers like Activision Blizzard and Electronic Arts are under the microscope of every game release.  It doesn’t matter what blockbuster games they have made in the past.  It only matters what they have produced lately.  Any flaw in a new game will be instantly reported to millions of gamers and any glitches or malfunctions due to game bugs or internet play problems can destroy a company - temporarily or permanently.  The investment sometimes doesn’t work even if the publisher makes decent games.  Look at 38 Studios for example of a company that went bankrupt in May of 2012. 

Even when the game is made and sells millions of copies, the publisher and game console that the game is played on isn’t out of the woods yet.  There have been arguments over which console is more ‘internet friendly’.  The Playstation Network or PSN had a major worldwide security breach in mid-2011 that compromised millions of accounts that included personal information like credit card numbers and passwords.  Xbox Live has had a better history but charges users a fee to play video games online.  Individual video games also have their hacking problems where people use cheat codes and use the internet to their advantage to take over multiplayer games.  Overall, it really ruins the experience and hurts future sales when new versions of popular video game franchises are released.

Winner of the Big 3 Console Makers

I’ve been a Sony fan since the first Playstation.  I own all three Playstation systems as well as the portable gaming device – the PSP.  However, this doesn’t mean that Sony is better than Microsoft or Nintendo from an investment standpoint.  I have also owned Nintendo products like the Game Boy and I’ve been using Microsoft products like most PC users since Windows 95 days. 

First, I will eliminate Nintendo entirely.  Earlier this year they further introduced the Wii U capabilities at the Electronic Entertainment Expo (E3) conference.  I saw most of the conference on TV and was not impressed with the system.  It is said to be the first entry in the 8^th generation of video game consoles.  Based on the reaction and the closing presentation of the system’s capabilities, I, along with the crowd in attendance, was not very impressed.  Nintendo failed to give anyone anywhere a reason to buy the new system over its predecessor – the Wii. 

Nintendo also appears to be playing catch up now to Sony and Microsoft in terms of gaming power and graphics.  Both the Xbox 360 and Playstation 3 are high definition (HD) capable machines.  They were also released over 6 years ago.  By the time Nintendo starts to generate momentum with the new Wii U late this year or early next year, both Microsoft and Sony will have their own next generation machines that will blow Nintendo out of the water in terms of technical capabilities and overall performance.  On top of that, as a stock, Nintendo has been listed on the pink sheets for a long time and I just can’t recommend a stock that is both traded over-the-counter and has lost over 75% of its share price value the past 5 years.

That leaves the choice between Microsoft and Sony.  I believe Sony will continue to create excellent game consoles in the near future that will meet or exceed anything Microsoft can create when you combine both the hardware, software, and gaming support.  However, Sony continues to post one quarterly loss after another.  Here are the last 6 quarters of earnings between Sony and Microsoft as well as the real returns of each company the last 5 years that include their reinvested dividends.

MSFT Total Return Price data by YCharts

Yes, Microsoft had a losing quarter for June 2012.  But that was the first losing quarter in over 10 years of quarterly earnings and due mostly to a $6.2 billion goodwill impairment charge and increases in the cost of revenue, research and development expenses, and administration expenses of 13%, 8%, and 8%, respectively.  Revenue actually increased compared to 2010 for Microsoft due to strong sales of the Xbox 360, the new 2010 Microsoft Office system, and Server and Tools products. 

This brings me to one last point I made in the beginning.  Sony was traditionally a consumer electronics maker famous for the Walkman and other electronic consumer gadgets.  Does the mp3 player you use today say “Sony” anywhere on it?  I didn’t think so.  Microsoft has not ignored its software business and has instead simply added a video gaming business.  Microsoft looks to break out of its decade-long share price range as they are capitalizing on their operating systems and new software releases. 

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