Thanks for taking time to read this.
AlphaSnake said:
I'm not sure I understand the supermarket analogy. Are you saying that when a supermarket advertises a select few products as being significantly marked down in price, they're still able to profit because that sale is drawing people into the store who aren't going to just buy those reduced items. In turn, they buy the reduced stuff, but mostly their items consist of items whose prices remain the same or have quietly been marked up. Did I get that right, or did an airplane just fly over my head?
That's correct. So, if you go into the store to buy a 12-pack of soda which the supermarket is losing $1.00 on because they are selling it below cost, but happen to buy (since you're in a snacking mood) a bag of potato chips (+$0.50), a frozen pizza (+$1.00), and a magazine (+$0.25), the store has still made $0.75 on the store visit, and therefore the strategy is instantly profitable.
If that's the case of the analogy, then I can't say it holds ground, because generally speaking, everything in a supermarket costs the same. Whereas the price differences between an Xbox, accessories and videogames are quite large -- although they have become far more tame today, in comparison to Nov. 2001. (Assuming I understood your analogy correctly).
Well, everything in a supermarket does NOT cost the same, but you're right that the supermarket analogy isn't an EXACT one because of the time factor. You make your supermarket purchases at once, but the total "purchase" of a videogame system happens over time. A better analogy might be a car dealer who goes REALLY low on the price of a new car to get a certain customer...hoping that the customer will bring their car into service at the same dealer, since service is highly profitable. He won't see that money for a while, but EVENTUALLY, the relationship will yield a profit.
A specific videogame example: Let's say for the sake of argument that you are selling a new console for $300, but it actually cost you $350 to build it. You will lose $50 for each console you sell...which means that you have to make $50 profit on something related to that console just to break even. Let's also hypothesize that the company gets a $10 cut out of each $50 game which is sold for the system. That means that, in order to break even, the average purchaser of the console has to buy five games. Although some people might buy those five (or more) games immediately, you would expect that most people would buy games over time. So, the company takes an immediate loss, but hopes to earn back the "missing profit" in the future...which is only possible with significant reserves (to handle the short-term loss) and a fairly risk-accepting environment, since it takes a lot of faith to go after that kind of strategy.
Now, this analysis is VERY simplistic, and ignores two critical factors that you would have to consider in the real world. First, this break-even analysis completely ignores the R&D which resulted in the design for the system in the first place. The company not only needs to earn back the variable/fixed costs associated with production, but also needs to recoup their initial investment and be able to fund future R&D projects to remain viable. Second, it also ignores the effects of price competition. If you improve your manufacturing process so that it only costs you $250 to build the system after a while, but market competition has driven your price point down to $150, you're now losing TWICE as much per system as you were! Even worse -- if your marketing department has done its job, you're selling even MORE items which result in a loss, which more than counterbalances the increasing lifetime game sales (and associated income).
I guess I've never come out and said it, but my point has been that if you're a newcomer and you're gaining a decent amount of ground over a veteran that's been around for over 20 years, you're clearly doing something right. Money is no concern to Microsoft. They chose to build a system that they knew was going to lose them money. MS is not concerned with losing money in regards to their hardware. They want to get a foot in the market and they're doing so. If the topic at hand was (let's say) JVC GameDude 3000, then yeah....that's a different story. JVC would never survive a $2B loss in one year's time, let alone set themselves up to take losses for the next 4-5 years. MS did. But MS can and knows that it won't affect them. The way they see it is that 5 years from now, they're going to likely make that money back ten fold. For the $6B they lost on the Xbox, they figure they'll make $10B in return -- $4B in profit. Of course, this is all figurative...but very, very possible; it just remains to be seen.
If I offered my services as a math tutor for $3/hour, I can guarantee you that I'd be booked solid, ten hours a day, for the entire school year, and I'd steal a ton of marketshare from the existing high school/college tutors in this area. I can also guarantee you that I'd be broke and kicked out of my apartment in no time flat because I couldn't meet my financial commitments.
My argument is that Microsoft's strategy is patently INSANE. You simply can't declare success after losing billions of dollars when all indications are that the situation is not going to improve for the current generation. (Their losses in that segment are flat, as noted in my earlier post, and I haven't seen anything about their R&D costs, though I assume they were significant.) If Xenon is also a "loss leader," Microsoft's stockholders will fight each other for the chance to blow up Xbox HQ. If it ISN'T a loss leader -- meaning that MS can make enough profit per console to recoup unit and shared R&D costs -- then I wonder what the value was in the first place of creating a Microsoft "brand" with the Xbox, especially if it doesn't end up being reverse compatible. If Xenon ends up being good enough to buy on its own merits (technology + games), then why was starting with a multi-billion dollar deficit in MS's videogame division a good thing?
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