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Xbox One increases Microsoft revenues - but its cost cuts into profits
Xbox One increases Microsoft revenues - but its cost cuts into profits
April 24, 2014 | By Christian Nutt

Microsoft has posted its financial results for its third quarter of fiscal 2014, which comprises January 1 - March 31, 2014. The company's gross revenue was $20.4 billion for the quarter, with net income of $5.66 billion -- slightly lower than what it posted a year ago.

Alongside its financial news, the company is trumpeting its success with Windows, Azure, and Office 365 -- but it's worth digging into the slight gains in its Xbox business, and what they mean.

For the quarter, the company reveals, it shipped 1.2 million Xbox One consoles globally, alongside 800,000 Xbox 360s. A week ago, the company announced it had shipped a total of 5 million Xbox One consoles to retailers. (Sony, of course, has already sold 7 million PlayStation 4 consoles to consumers.)

Revenues for Microsoft's Devices and Consumer Hardware division for the quarter reached $1.97 billion -- a 41 percent year-on-year leap from the $1.4 billion it did in 2013.

That jump is powered, in part, by 45 percent higher Xbox platform revenues year-on-year -- relating to the increased price of the Xbox One console at retail. It's also more expensive to make, though. CFO Amy Hood's statements to that effect last quarter are borne out by these results: Cost of revenue jumped 70 percent for the division, and a big chunk of that is thanks to the Xbox One. That being so, gross margin for the division decreased 34 percent year-on-year.

As the Devices and Consumer Hardware division also contains its Surface hardware and PC accessories business, it's impossible to ascertain precisely how much revenue Xbox platforms generated, as Microsoft has chosen not to provide those numbers.

The company also didn't break out any of its first-party video game numbers, but it did note that Xbox Live transactional revenue grew by 17 percent year-on-year.

UPDATE: The topic of Microsoft's Xbox business was barely raised during its investor call, with no analysts asking about it at all. Some of CFO Amy Hood's statements did imply, however, that there is more supply than demand for its Xbox consoles.

"We do expect to work through some inventory in Q4," said Hood, referring in this case to the period between April 1 - June 30, 2014. She also referred to "channel inventory drawdown for Xbox consoles," implying that manufacturing of Xbox consoles will slow or stop, to allow retailers time to work through existing inventory.

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Chris Grey
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Out of curiousity, do you know a ballpark figure for the total ROI for the xbox brand? I remember seeing that it was 1% (not annualized!) a couple of years ago during the height of the 360, but I haven't seen total numbers thrown around since.

I'm pretty sure I saw those numbers around 2011 when the brand was ~10 years old.

Merc Hoffner
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How exactly would one quantify? As it stands the whole Xbox 'experiment' is in the region of $4billion in the hole. They lost that much on the first Xbox, and according to public filings, they've essentially countered all of the early 360 losses, ending up almost perfectly at break-even this gen as of last year if I remember correctly.
But the real situation is severely obfuscated. Firstly, the figures are only posted for the larger division containing Xbox (Entertainment and Devices Division, EDD), and it covers hardware/format experiments including Skype, Surface, Zune, Windows phone, etc. and associated technologies. Most of those aren't intended to loss lead, but we don't really know the situation. But it's likely they are covering huge losses from those ongoing business including Xbox with royalties from patent license fees to android:
But the situation is more complex still: even if Xbox is posting a loss atm, the cyclical nature of consoles may mean it's not so bad - a loss making year late in a cycle may be covering extensive R&D spending for the next cycle.
But the situation is more complex still: When considering the considerable cash-flow allocations and time-value of the money (i.e. what they could have done with the cash thrown/recycled to Xbox if they'd just put it in the bank / invested in anything else), the performance over 15 years could be considerably worse than the $4billion loss suggests.
But the situation is more complex still: the strategic benefit (if there has been one) is almost completely unquantifiable, though it certainly has a monetary value. I.E. if they'd never made a console, the consumer electronics landscape might have been different, and reshaped their overall fortunes - for instance, before the $599 fisaco, there was a very real fear that the PS3 could strategically eat into PC business, cutting Microsoft's bedrock Windows and Office revenue.

We can probably say two things:
1. The situation can't be great or Microsoft would be screaming about how much money they're making. In the last shareholder call they barely mentioned Xbox.
2. After one stinker cycle, and one neutral cycle, Microsoft would need one 'knock-it-out-of-the-park cycle just to break even after ~20 years, followed by a second hugely successful cycle in a row to have any net earnings to show after ~25 years, followed by an unprecedented third consecutive hit to have any meaningful return over ~30 years. Considering a console paradigm is hard to imagine in 3 generations, I think this is a pipe dream at best.

Ron Dippold
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The widespread sales and bundles we saw starting not long after launch (and still going on) can't be helping matters.

Dave Hoskins
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Interesting, I can't help thinking that Sony were ahead of them all the time, and Microsoft ham-fisted their way into a rushed console that's bigger, a little less thought out, and thrown together to enter the market at the same time. It's what Microsoft do all the time, it's as if their own departments don't understand each other, at all. They don't understand the public and think they can dictate everything all the time, it's possible to see their undoing but that's a long way in the future, so they'll ride the wave one more time.

Matthew Mouras
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If you believe that Microsoft is a company that has "ridden the wave" to its successes over the years, you are woefully mistaken. They are innovators and their history bears this out. It's fashionable to belittle their efforts, but I don't think it's a good idea to bet against them.

Dave Hoskins
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I'm not being 'fashionable', just honest and personal. Yeah, they are a massive and successful company, but you've got to admit they they've make some dire decisions in the last few years - the only people using a Surface and Windows 8 appear to be TV cops! :)
I like Microsoft a lot, but please, someone help them think better. Maybe Balmer's successor will help...

Jarod Smiley
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^It's what happened to Sony, they were the Apple of the 90's, and had a lock on the consumer electronic world. Now, Kaz is having to cut divisions left and right to remain profitable.

And, yet, with the weaker, restructuring Sony, we get the PS4.

Morale of the story? Companies need to stop trying to expand so much and stick to what they are good at. Save up money, invest in bettering your current successful products. As much hate as Apple gets, you don't see them entering every market. There isn't an Apple Branded HDTV, no Apple game console. They try and innovate with one product or service at a time, which is where I believe MS needs to get back to. Windows MS, keep improving it, and everything will fall into place. This Zune business with chasing the latest hit, it just needs to stop, make your own hits.

Why the Xbox One isn't a console that doubles as a PC is beyond me...Now, when you compare it to PS4, there's no reason to own both IMO, and people are going to go with the one getting the buzz and cheaper price tag.

Duvelle Jones
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"Why the Xbox One isn't a console that doubles as a PC is beyond me..."

I think that part of the reason to this is the timing of the birth of the Xbox brand, it was at the tail end of Microsoft anti-trust lawsuits. Any movement to tie Xbox to Windows (any more that it already was) would attract undue attention, but this is when the company was an industry force to be reckoned with.
Why that hasn't happened now (particularly with the Xbox One back to using PC parts), is anyone's guess.

Andrew Siercks
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The "channel inventory drawdown" is a pretty significant remark by CFO Hood, seeing the widespread sales by retailers. You have to imagine that Microsoft will rebrand the Xbox One in some way this year or suffer further. Backwards compatibility helped original Xbox users jump to the Xbox 360 with ease and boosted sales. Now with no such tool, it makes little sense to go from 360/PS3 to One/PS4 with the lack of attractive "next-gen" titles.

The emphasis on the "power of the cloud" and the Xbone's television capabilities seem to be a wrong move. While cloud services are nice for holding some information, a return to power-hungry machines seems more practical while maintaining the cloud as a back-up (as the cloud should be). An Xbox One is not as powerful as a mid-range PC, even if it costs less. It would have been great to see a console that runs quietly but rivals something you could buy for a couple hundred more. And with more consumers cutting cable from their monthly bills, it would be great to see an appeal to digital-only customers, be it through exclusive services (HBO subscription tied to an Xbox Live account, perhaps?) or something else.

There were many places the Xbox One, and Microsoft in general, went wrong. Sony and Microsoft are trimming the fat from their organizations. It is really fascinating to see what the future will hold for the console market.