NEXT XBOX COULD BE ‘DISRUPTIVE’ IF RELEASED TOO SOON—NALYST

Bhatia’s comments came after latest news of possible Xbox successor was reported by Wall St. Journal Mon. Report said Microsoft had given code name of “Freon” to “souped-up successor to the Xbox console” that would be capable of playing games and would serve as PVR-type device like Microsoft’s UltimateTV, allowing users to pause live TV programs and record them onto hard drives. Possibility that hybrid device would feature UltimateTV features was nothing new. After all, another report last week had said Microsoft was working on Xbox/UltimateTV hybrid that could ship as early as next year (CED June 26 p3). Last week’s report, citing unnamed sources, said Microsoft engineers had been at work for 9 months on device that would combine company’s Xbox with its UltimateTV recorder. Both reports said hybrid product could ship as early as next year for about $500, compared with current $199 price of game console on its own. One of few new things in Wall St. Journal report was word that hybrid machine apparently had been code-named Freon to suggest “cool” nature of device. It was highly unlikely, however, that if hybrid indeed were being developed, it actually would be named Freon because that is DuPont-owned trademark for fluorinated hydrocarbon used as coolant.

Wall St. Journal report attributed its details to “people familiar with the effort.” Report said that while it was “unclear whether such a product will ever be built, its core concept appears to have the backing of Microsoft Chmn. Bill Gates, who wrote in an internal memorandum in Jan. that he was a ‘big fan’ of a machine that would combine video services with gaming.” Microsoft has indicated ever since CES that it is out to beat Sony to market with next-generation console system and most industry observers expect Sony to introduce “PlayStation 3” in 2005 or 2006, although manufacturer has said nothing -- publicly, anyway -- about timing of PlayStation 2 followup. Wall St. Journal report quoted “a person familiar with Microsoft’s plans” as saying: “The utmost goal is to ship something before Sony.” Despite apparent desire to top game hardware market leader Sony, Microsoft CEO Steve Ballmer said in Japan last week that Xbox followup wouldn’t be introduced until about 2006, although it remained possibility that Microsoft could offer hybrid device next year and true “Xbox 2” -- or “Xbox Next,” as Wall St. Journal referred to it -- at later date. Report said changing game development cycles “could be particularly threatening to Sony, which relies more than Microsoft on specialized computer chips that take years to design.”

Bhatia told us he had “no knowledge” about Xbox followup said to be coming out possibly next year. He said it could indeed be “attempt by Microsoft to one-up Sony.” But he warned that Microsoft “might be missing the boat a little bit” if it indeed was overly concerned right now about introducing “cool machine” rather than concentrating on what was most important in game industry -- introducing “cool games.” With Sony far ahead in installed base of game consoles, he said Microsoft should be spending its time and energy now concentrating on content and not on coming out with new hardware only year after Xbox was introduced: “It would be disruptive to come out with a next version so quickly,” in part because it could create major challenge for developers to produce games for 2 systems if there were any differences in gaming capabilities of machines.

Bhatia said it took 18-24 months to develop average game. Therefore, even if Sony would be company hurt more by changing game development cycle, Microsoft still would be affected because various game makers who created titles for one system also made them for other platform as well. Additional complexity for game development would come because numerous developers have yet to jump on Xbox band wagon -- especially in Japan, where Microsoft says it still wants to be player despite significantly trailing Sony and Nintendo there. However, Bhatia said it would be “fine” if Microsoft introduced device next year that added only extra PVR-type capabilities and didn’t change gaming functionality.

But Wedbush Morgan Securities Research Dir. Michael Pachter questioned philosophy behind Microsoft’s making hybrid Xbox device at all, bluntly calling it “a dumb idea” and telling us: “There is only one consumer electronics device in the history of technology that has performed 2 functions and was a big seller: That’s the clock radio. I think Microsoft trying to create a hybrid device is very ambitious. I think that people who want ReplayTV or UltimateTV or TiVo will buy those boxes. Building them into a game machine seems like a pretty silly purchase. Why would you pay $500 for the combined machine when you can buy UltimateTV for $200 and an Xbox for $200. Allowing you to have those advanced… features is a nice feature. But for an extra $300 you're not going to do it, so I think that [Microsoft’s] foolish yet again. I also think they run the risk of causing confusion in the marketplace -- that they're actually coming out with Xbox 2 and I think that they may get some backlash from publishers and developers because it may be hard to sell software that says Xbox unless it says Xbox 2 compatible or something. If in fact all software is compatible on both platforms then there’s no real reason to come out with” it to begin with. However, some CE industry observers might argue that hybrid TV/VCRs, in addition to clock radios, also had been strong sellers.

Microsoft consistently has declined to comment on what it calls “rumors and speculation.” Only comment available from Microsoft Mon. about Wall St. Journal report was: “We are moving full steam ahead with Xbox in its current state while staying deadly focused on games. Of course, we have engineers looking at dozens of possibilities for the future of the console. If there’s something to announce down the road, we'll be in touch.”