Sony's Got Game Once Again

Shares of the electronics giant hit a five-year high on a soaring profit forecast thanks in part to shrinking PlayStation 3 losses

Sony (SNE) shares touched a five-year peak on Thursday, a day after the company forecast profits would surge sixfold this fiscal year. The gains suggested that investors had shrugged off bad news that the company's video game unit failed to reach its sales target of 6 million units for its brand-new PlayStation 3 console.

The Japanese electronics and entertainment colossus had reported less-than-stellar fiscal-year 2007 earnings due to big losses in its games business and a weak-performing electronics arm following a massive global recall of laptop batteries. In the year through March, Sony said operating income fell 68.3% to $598 million despite a 10.5% gain in revenues to $69 billion.

TVs Anything but Flat

But this year's results are expected to improve as losses from the PS3 video game console shrink and sales of Sony flat-screen TVs take off. The company predicted that operating profit would shoot up by six times to $3.7 billion and sales would gain 6% to more than $73 billion. Analysts think Sony could even beat those forecasts.

Those predictions helped lift Sony shares by as much as 5.8% in Tokyo trading May 17—their highest level since June, 2002. By day's end, however, the gains had shrunk to about 2.6%. The bellwether Nikkei 225 stock average lost 0.17% on the day.

Sony Chairman and Chief Executive Officer Howard Stringer is coming up against his own deadline for restoring the company's electronics business to its former glory. Analysts now think he'll succeed, thanks to a likely bounce to profitability for Bravia liquid-crystal-display TVs and semiconductors. The company's aggressive push into the LCD TV market—an area where it was a latecomer—and its heavy spending on the superfast Cell microprocessor for the PS3 previously had been a drag on earnings.

Return to Growth

Goldman Sachs (GS) predicts the electronics division will post 5.1% margins for the fiscal year ending in March, 2008. Overall, the company's margins should edge up to 5.2% this year, from less than 1% last year. If Stringer can pull that off, he would have set the company back on the path to growth, putting behind him six years of losses or meager profits.

The biggest question now is how quickly Sony can turn around its games division. That task will fall onto the unit's new chief, Kazuo Hirai, who takes over for the legendary Ken Kutaragi, the inventor of the PlayStation machines. The unit lost $1.9 billion last year after massive startup production and marketing costs for the PS3's debut last November. The losses should narrow to about $414 million this year, Sony Senior Vice-President Takao Yuhara told a group of reporters Thursday.

That's the kind of reassurance analysts and investors wanted to hear. Technology Business Research analyst William Peters Jr. estimated that the company had been losing between $240 and $305 for every PS3 it sold. The company recently discontinued a midrange version with a 20-gigabyte hard disk drive, which should help it cut costs somewhat. "TBR believes Sony is taking appropriate steps toward improving its game division's financials," Peters said.

Third-Place PS3

But it remains to be seen whether Sony can catch its main rivals, Microsoft (MSFT) and Nintendo (NTDOY). Those two companies' machines, the Xbox 360 and the Wii, have been outselling the PS3. Third place is not a familiar position for Sony, whose two previous generations of consoles, the PSOne and PS2, were the best-selling ever. The company expects to sell 11 million PS3s this year, about even with last year's pace.

Sony's gambit for luring buyers to the PS3 will be to release nearly three dozen new game titles over the coming months. That's key because Sony's business model depends on hardware sales driving software sales, from which it receives licensing fees from independent developers. And with Sony expecting the seven-year-old PlayStation 2 to continue losing momentum and that console's game sales to decline, the company will be ever more dependent on the PS3 for profits.

So far, Sony's PS3 software hasn't been selling too well, with just 13.2 million units shipped last year. But Jack Tretton, who head Sony's U.S. video games business, told Bloomberg News that 34 new titles were expected this year. They will include 19 from independent software developers, and will feature titles for the hard-core gamer set, such as the adventure fighting series Heavenly Sword, as well as those for casual gamers, such as SingStar, which lets players sing karaoke.

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