Analyst: Xbox 360 to Trigger Action

A new report published by Wedbush Morgan Securities (WMS) on its forecast for total video game hardware and software sales in the U.S. and Europe for 2005 sheds some light on how the video game market is shaping up for this year and beyond, including possible price drops on current hardware.

Increase in software sales driven by new hardware

Looking at the combined software markets of the U.S. and Europe, WMS is expecting 5 percent dollar sales growth for 2005; the report notes that it is covering these regions together because WMS believes that "the U.S. and European markets represent over 95% of sales for U.S. interactive entertainment publishers, and in many cases, represent close to 100% of sales."

Much of this software growth is expected to come from game purchases associated with new hardware such as the Nintendo DS, Sony PSP and the upcoming Xbox 360. In fact, the hardware market will see a significant increase in 2005, rising from 35 million units sold in 2004 to an estimated 40.6 million units this year. WMS is expecting combined unit sales of 13 million next generation consoles and handhelds, with software sales of almost $1.3 billion during 2005. Software sales for these new consoles/portables are expected to account for more than 8 percent contribution to WMS' predicted 5 percent growth rate.

Price cuts

The Xbox 360, which WMS predicts will sell 1.5 million units in the U.S. and 1 million in Europe, will play a large part in boosting the video game market this holiday season—the new system is expected to contribute as much as $380 million to software sales in 2005. In addition, its introduction could lead to a price cut on older hardware, such as the PS2 and the GBA SP, which would in turn also boost the market. The PS2 could drop to $99 and Nintendo could slash the SP from $79 to $59, according to the report. However, WMS does not see any further price drops in 2005 for the DS ($129) or the PSP ($249).

"We expect a price cut for the PS2 later this year. We believe that Sony will respond to Microsoft's introduction of its next generation console with a cut from $149 to $99 some time before the November 22 Xbox 360 launch," noted Wedbush analyst Michael Pachter. "We think that Sony has positioned itself to lower price by reducing the production costs of its console when it redesigned the box to a smaller format... Should Sony choose to discount the PS2 to $129 or even $99, we would expect a dramatic lift in PS2 hardware sales, and a corresponding lift in PS2 software sales. Our model forecasts that Sony PS2 hardware sales will be 1.8 million units higher this year compared to last year."

As for the Xbox business, WMS doesn't anticipate any price drops on Xbox hardware; MS is expected to focus on increasing adoption of the 360 instead.

"We do not expect a current generation Xbox price cut from Microsoft this year, notwithstanding the company's stated intention to 'support' the current generation console. We believe that Microsoft's production cost of the Xbox is higher than the current retail price, precluding further price cuts, and we also think that the company prefers that consumers buy its next generation console when that box is introduced," Pachter said.

Looking ahead, 2006 should be fueled by a growing base of 360 users, as well as more PSP and DS owners, and a similar scenario is expected in 2007 when consumers begin rapidly picking up the PS3 and Nintendo Revolution. "[We] think that growth of the installed base of Xbox 360, PSP and Nintendo DS will allow for more dramatic sales growth next year. In 2007, the ramp of the PS3 and Revolution should again drive double digit sales growth," concluded Pachter.

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