Mobile Gaming Continues To Threaten Console Market, Even As Next Gen Systems Wait In The Wings

Most of our console coverage tends to focus on hardware, rather than software, but with Sony's PS4 unveiling just weeks away, we want to consider the greatest threat facing the console industry:  mobile gaming. Console sales (hardware and software) have tumbled for the second year in a row, even as game purchases from tablets and smartphones have soared.

These factors would be troubling in any context, but the economics of new console launches are particularly brutal. Sony and Microsoft historically take a bath on console launches and hope to make up the difference in software sales. A few weeks back, we delved into Microsoft's video game operating income since 2005 -- let's take another look at that data with Microsoft's latest quarterly results factored in.

Increasing profits for Microsoft Gaming

If we start counting in 2005, Microsoft's last quarter of results finally brought the company into the black in terms of total costs and losses for the Entertainment division. There are other products counted in that division's figures as well, but the Xbox 360 has accounted for much of the profits (and losses) in the past seven years. Operating income for the entire period is $174 million. If we were to go back further, and add in the original Xbox, Microsoft's total loss is still above $2 billion dollars.

Sony doesn't disclose the same amount of information and it includes different product mixtures in its "Entertainment" division. Based on what we do know about PS3 sales, the slow initial ramp, and the low attach rate that plagued the console for several years after it debuted in 2006, we can safely assume that Sony's much deeper in the red than Microsoft over the lifetime of the PS3.

Sony PlayStation Controller
Sony will fight back. Oh yes.

What does this have to do with mobile gaming? Far more than you might think. First, there's the direct threat:  Dollars spent on mobile games are dollars that aren't being put towards buying AAA titles. Fewer purchases mean lower attach rates, lower attach rates means it takes longer for the console manufacturer to recoup their hardware costs. The PS3, like the original Xbox, may never make a profit in its lifetime. That's a major loss of face for Sony; the company's PS1 and PS2 were hugely profitable.

Price Erosion, Cross-Platform Development

Few people would argue that Angry Birds is a replacement for Mass Effect 3, but mobile games are typically $2-$5 compared to $60 or more for premium titles. The question isn't whether or not hardcore gamers will buy new platforms -- they absolutely will -- but whether occasional gamers or media enthusiasts will opt to invest in a next-generation device when cheaper products offer increasingly sophisticated entertainment and media capabilities.

Mass Effect 3 Screen Shot
Titles like Mass Effect 3 offer immersive game play but at a proportional cost ratio.

One solution is to develop games that are designed to be played across multiple platforms. Nintendo, Sony, and Microsoft have all dabbled in this category before, but not very successfully. Nintendo has a long history of developing its own premium titles and has refused to even consider offering Mario, Zelda, or Metroid titles on third-party hardware. Sony has worked with handset developers to create PlayStation Certified devices, but none of these products have sold particularly well.

Microsoft, meanwhile, has an Xbox Store in Windows 8 (it's effectively useless for PC gaming) and just killed its XNA program. XNA debuted in 2006 as a framework for developing games that could target multiple platforms simultaneously. Now it's gone -- right before a next-gen console is about to launch.

Price is a major factor here. Publishers are typically paid a percentage rather than a flat fee. If Microsoft earns 20% of the MSRP on a $60 Xbox game, it makes $12. Price that same title at $5 and sell it on the iPad, and Microsoft makes $1.

We expect Microsoft and Sony to play up their next-generation console's media capabilities just as much as their gaming chops. These capabilities are going to be essential to attracting the non-hardcore gamers. Even so, the upcoming crop of console hardware could be the last conventional boxes either company manufacturers. Cloud gaming is still years away from widespread deployment, but at a certain point it may make more economic sense to invest in infrastructure and service capabilities as opposed to building individual consoles for personal use.