Dancing Together: xBox, PS3, and Wii

In the gaming industry, as in other technology driven industries, products are enhanced and prices evolve rapidly.  In 1991, D’Aveni characterized this fast moving dance as hypercompetition.  It appears that Microsoft and Sony are fast dancing again while Nintendo is sitting it out.

Sony Took the First Step

On the 9th of July, 2007, Sony announced its launch of an improved PS3 with 80 GB of hard drive, priced at $599.  Concurrently, it reduced the price of its 60 GB version by $100 to $499.

Reducing the price of an old model while launching an improved model at the prior price is a classic product management strategy.  One purpose of this approach is to expand the number of positions which a family of products covers along the value equivalence line.  When executed in this manner, rather than by adding the enhanced product at a higher price, the result is either a flattening or a lateral outward movement of the value equivalence line as customers are able to purchase more benefits at the same or reduced price.

(See Figure 1.  The black dots denote Sony’s price and product strategy.)

The above explanation only partially describes Sony’s ploy.  On August 6th, Sony announced it would stop production of the 60 GB PS3 and expects the final unit to be shipped later this fall.  Concurrently, it began shipping the new 80 GB version.  In other words, Sony isn’t interested in offering multiple version of the PS3 but is willing to increase its costs by adding a larger hard drive while not increasing the price.

Regardless of which interpretation is accepted, Sony’s price and product strategy will clearly affect contribution margins.  At issue is whether future sales of consoles and their associated gaming titles are sufficient to overcome the hurdle of reduced margins.  As a partial answer, Sony added in that same announcement that during the four weeks in which the 60 GB PS3 had a lower price, demand increased by 113%.  Given that the price reduction was 20%, we know that the short term elasticity of demand for the PS3 is fairly high at 5.65.  As has been demonstrated in many pricing courses, high elasticities of demand usually favor price reductions.

Microsoft Responded

On that same 6th of August, Microsoft announced a price reduction on its Xbox.  The Xbox Core was reduced by $20 to $279, its Xbox 360 with 20 GB of hard drive was reduced by $50 to $349, and its Xbox Elite with 120 GB of hard drive was reduced to $449.

(See Figure 1.  The green dots denote Microsoft’s price strategy.)

One interpretation of Microsoft’s reaction is that it believed the value proposition of the similarly priced PS3 was more compelling than its offer on the Xbox 36 Elite.  If so, Microsoft took a price reduction to distance itself from the Sony product.  However, was the Xbox price reduction necessary?  It is difficult for an industry outsider to evaluate without out data for calculating cross-product elasticities.

Microsoft denies such a claim.  When asked by another news outlet, David Hufford, Product Manager for Microsoft’s Xbox, indicated that their price move is part of a strategy larger strategy to time-segment the market according to willingness to pay.

Nintendo Wii Remained

Of the three competitors, Nintendo left its Wii price unchanged at $250.  Other analysts predict no change on the horizon due to high-demand coupled with supply constraints.  (See Figure 1.  The blue dot denotes Nintendo’s position.)

When the top end of the market lowers its price or increases its benefits and the bottom end of the market holds its price steady, the hypercompetition leaves the value equivalence line flattened.   For consumers, this implies that larger benefits are available at a smaller price increment.  For industry competitors, this implies a continued strike against profits as prices decline and products are consistently upgraded.  Eventually, Wii will respond as well, but not just yet.  Expect more dances in the future.

References

1. Richard A. D’Aveni, Hypercompetition, (New York, NY, The Free Press, 1994).
2. Nick Wingfield, “Sony Cuts PlayStation 3 Price to Lift Sales”, The Wall Street Journal, July 9, 2007. p B4.
3. Sony (July 9, 2007) Sony Computer Entertainment America Introduces New 80GB PLAYSTATION®3 (PS3^TM); Announces New Price on Current 60GB Model, Press Release.
4. For a discussion on the Value Equivalence Line, see Michael V. Marn, Eric V. Roegner, Craig C. Zawada, The Price Advantage (Hoboken, NJ:  John Wiley & Sons, Inc. 2004) pp. 43-73.
5. Sony (August 6, 2007) Sony Computer Entertainment America Announces Availability of New 80 GB PLAYSTATION®3 (PS3^TM), Press Release.
6. For a discussion on the interplay between price elasticity, price changes, and profitability, see Thomas T. Nagle and Reed K. Holden, The Strategy and Tactics of Pricing, 3rd ed. (Upper Saddle River, NJ: Pearson Education, Inc., 2002) pp 35 – 72.
7. Roger Cheng, “Microsoft Sets Price Cuts in Bid to Boost Xbox Sales”, The Wall Street Journal, August 7, 2007, p B4.
8. Microsoft (August 6, 2007)  Microsoft Lowers Price of Xbox 360 by $50, Press Release.
9. In a prior Wiglaf Journal article, it was argued that the price decline on the 60 GB version was a prudent reaction to information regarding console market share and the low level of perceived benefits of the Blu-ray video format.  It was also mentioned that a more thorough analysis would reveal an overall versioning strategy.  In this article we begin to breach that discussion.