How Good Was Sony's Stellar Quarter?

The company's latest quarterly earnings were undeniably strong, but it's still too early to declare a full-fledged recovery

At Sony (SNE), a bona fide recovery always seems just beyond reach.

On July 26, the company strongly exceeded analysts' April-June quarterly forecasts, by tripling operating profits, to $824 million, from the same period last year, on a sales gain of just 13%, to $16.4 billion. Net income gains were nearly as impressive, doubling, to $552 million. Given that many analysts had expected a ho-hum first quarter, it's tempting for Chief Executive Officer Howard Stringer & Co. to flash the victory sign and declare success.

But Sony's management isn't that sanguine justs yet. That's because while the PlayStation 3 video game console gave overall sales a boost, a lot of the profit gains weren't really due to big product launches. A favorable swing in the yen played a far larger role in driving up the electronics division's profits an astonishing 77%.

The yen's weakening against the major currencies helped Sony's overseas earnings from gadgets, films, music, and services look better than they would have if the currency had stayed steady. And the two biggest blights on the company's financial report remain its TV and games divisions. You can't blame investors for keeping Sony's stock price trailing the gains of the Japanese electronics industry's bellwether, the electric machinery index, which rose 8% in the quarter, vs. Sony's 6%.

Movie Business on Fire

Still, the fact is that Sony is doing better. Video cameras, digital still cameras, and chips for PS3s are bringing in a steady income. "It's my feeling that the electronics division—with the exception of TVs—is holding its own," Chief Financial Officer Nobuyuki Oneda told reporters.

What's more, Sony's movie and financial businesses are positively on fire. So is its cell-phone joint venture with Swedish tech company Ericsson (ERIC). (Because Sony only owns half, its results only show up in net income.) The duo increased their share of the global handset market in the latest quarter to 9%, from 6% previously, thanks to a full offering of sleek, new Walkman phones.

And while tumbling television prices present a challenge for Sony's TV business and put a crimp into profits, the company is taking steps to raise its game. Oneda said Sony's joint venture with Samsung Electronics, which makes liquid-crystal-display panels for flat-screen TVs, is a moneymaker, and that a so-called eighth-generation plant in Korea will be minting new state-of-the-art panels for TVs by August.

Closing the High-Def TV Gap

That's key because the plant makes bigger sheets of glass than older fabs, allowing Sony to more efficiently churn out the big-screen TVs in the 50-inch range that Americans and Europeans are itching to buy. Lowering costs is also a good way for the company to insulate itself from the 20% to 30% annual price drops that make it so hard to turn a profit in this business.

Oneda said Sony fell behind competitors in refreshing its lineup of high-definition TV models but would soon close the gap. "Besides TVs, it's my impression that the rest of the electronics division is holding its own," he added.

The burning question for Sony now is the same one that's been dogging the company for months: How quickly can Stringer's new PlayStation chief, Kazuo Hirai, turn around the gaming division? The PS3, packed with the superfast Cell microprocessor, a high-definition Blu-ray disc player, and other cutting-edge amenities, hasn't proved nearly as popular as Nintendo's Wii, which went on sale around the same time last November and is being marketed to consumers who wouldn't normally consider themselves gamers.

Look for an Even Higher-End PS3

Sony said it shipped 710,000 consoles in the April-June quarter, less than a fourth of the 3.43 million Wii machines Nintendo produced in the same period. That's even more disappointing because Sony sold about 1.66 million units at the end of 2006 and 1.91 million from January to March. Oneda acknowledged that the tally fell short of the company's own forecasts but didn't offer any specific numbers. "This is an all-time low since launch," Ovum senior analyst Carl Gressum wrote after the results were posted. That, and the fact that Sony still loses money off of every PS3 it sells, were the reasons the gaming division racked up a $242 million first-quarter operating loss, wider than the previous year's, despite a 60% leap in sales.

Obviously, the prospects still don't look good. But Hirai, who formally took over the PlayStation unit in June, is springing into action. He's promised 200 new titles and 180 download-only titles in the coming months, from about 100 now. The company is also planning a new, high-end PS3 that will sport an 80-gigabyte hard disk drive and a $599 price tag. It announced a $100 price cut to the 60GB version at the July E3 show in Santa Monica, Calif., and will soon roll out its PlayStation-branded online world, dubbed Home.

Meanwhile, engineers in Sony's semiconductor business will soon switch to more advanced chipmaking technology that should shrink the PS3's Cell chip, and help cut the cost per chip, said Oneda. Stringer and Hirai are hoping the masses—not just hard-core gaming fans—come flocking.

Before it's here, it's on the Bloomberg Terminal.