Video Gaming's Fourth Quarter Harder to Game

Sony's (SNE - commentary - Cramer's Take) decision to cut PS3 shipments for the fourth quarter, but still go ahead with the product launch, might well be the worst-case scenario for the video-game industry. Microsoft (MSFT - commentary - Cramer's Take) looks particularly vulnerable; August sales numbers highlight the problems it faces in trying to regain momentum with Xbox 360. Sony and Microsoft have other possible growth engines apart from their video game products, but the recent rebounds of Electronic Arts (ERTS - commentary - Cramer's Take) and Activision (ATVI - commentary - Cramer's Take) may be prematurely optimistic.

Investors have clearly started anticipating an imminent upleg in the tabletop console cycle. But the transition from the PS2/Xbox era to the PS3/Xbox360 era is likely to be a whole lot messier than expected. Big Western software and distribution chains are particularly vulnerable during the fourth quarter of 2006.

Lack of Supply May Kill Demand

Sony's revised fourth-quarter PS3 plans put major video-game publishers, such as Electronic Arts and Activision, in a tough spot. For a launch, 400,000 units in the U.S. and 100,000 units in Japan is minuscule. During the slow month of August, the aging PS2 sold more than 260,000 units in the U.S., and Japan's top-selling console, DS, moved more than 500,000 units during the month.

The Xbox 360's launch last November is an intriguing example of how massive, early pent-up demand can fail to translate into real momentum. No doubt, without the severe capacity constraints on the Xbox 360, Microsoft could have sold around 700,000 units last December. But when shortages finally were rectified by spring, the console settled to a monthly sales pace of roughly 200,000 and has sold only 2.4 million units total in the U.S. so far, lagging the pace of the original Xbox during its first 10 months on the market.

By this summer, Xbox 360 had become old news in Europe, Japan and the U.S. The consumer frenzy fanned by last winter's shortages calmed down remarkably fast. Demand for PS2 consoles and games has remained surprisingly strong, a trend underlined by August U.S. sales numbers from NPD Group. This may not bode well for the software market for either Xbox 360 or PS3. Consumers may stick with last-generation products as long as they remain unsure about the prospects of the expensive new tabletop consoles.

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At time of publication, Kuittinen had no positions in the stocks mentioned, although holdings can change at any time.

Tero Kuittinen is a senior product specialist for Nordic Partners, Inc., a pan-Nordic brokerage firm. Although Kuittinen is an employee of Nordic Partners, Inc., the statements above are being made in Kuittinen's personal capacity and are in no way are the statements of Nordic Partners, Inc., nor attributable to the company. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Kuittinen appreciates your feedback; click here to send an email.