Are we at a big inflection point for Xbox or is Microsoft just going to double down on what it’s been doing until things magically turn around, or it decides to spin off the gaming business altogether? That’s one of the questions that has arisen out of the recent whiplash between a great Xbox showcase last weekend and a harsh memo from Xbox CEO Asha Sharma promising a “reset” later that same week. Microsoft CEO Satya Nadella was asked what the model will be for its gaming business moving forward during a recent live event and while he didn’t offer many fresh clues, he certainly sounded disappointed that Xbox is so bad at making money.
“The challenge now for us is to think about how do you innovate both in hardware as well as in the games going forward in a world in an economically viable way,” he said on stage at The New York Times Hard Fork event on June 10. “I think one of the things that Asha, who has just taken over Xbox, put out is that we’ve invested a lot. No one can accuse Microsoft of not having invested for the last 25 years. And now we have to turn this into a sustainable business that delivers what is fundamentally one of the best sources of entertainment.”
He continued:
Still the challenge we have is we’re not the been monetizing that entertainment. In fact, if anything, we’ve been subsidizing that entertainment. In fact, there’s more monetization of Xbox games happening on YouTube than at Microsoft. And so that doesn’t mean we go do things that are unnatural. We want us to do what is really our job, which is to build great games, build great hardware, but we’ve got to do it in an economically sustainable way. So, I think Asha is really, 100 days in, and she put out a post saying in the next 100 days, she’s going to take a fresh look and make sure we deliver on what our fans expect of us both on the hardware side or on the publishing side.
The context around the discussion was Sharma’s unprecedentedly frank announcement last week that Xbox’s current accountability margins are only 3 percent, meaning that all of the money currently being spent on the business would actually be more profitable sitting in an index fund somewhere. That and the fact that the AI race, which the bulk of Microsoft’s business is invested in right now, is fueling historic spikes in prices for the components used to make gaming hardware. How do you launch a new console generation–Project Helix–into that environment and expect to succeed?
Nadella didn’t share a magic solution. “I think we have to find ways to deliver the games in which it is economically relevant for the customer and for us, so today there’s an issue, in fact, unfortunately, because of what’s happening with the cloud and AI, the prices have gone up, right?” he said. “It’s happening with PCs, it’s happening with phones, Xbox is impacted as well, so the scarcity of the semiconductor supply and memory in particular are having a massive impact on consumer electronics all up. That’s a temporal thing that I think we’ll get through, it is not going to be permanent, but there is a permanent thing which is what’s the Xbox model going forward and that’s where, if you think about it like PCs and consoles, both have their place obviously mobile has people playing elsewhere and so we have to now bring it all together while staying true to what we’ve always done.”
There are a couple of different ways to interpret all of this. The first is that this is just some media-trained gobbly gook you say on stage to make clear you understand the challenges facing Xbox without actually revealing any secret insights or master plan. The second is that Microsoft doesn’t know the answers to this yet and isn’t prepared to start signaling big strategy shifts until it has completed the latest round of mass layoffs and cuts across its sprawling gaming business.
Here are two other reads. Nadella is getting impatient that Xbox has been given over $80 billion in capital to acquire studios and publishers over the last decade and is still in third-place with terrible profit margins. Valve collects commissions by selling other people’s games on Steam. YouTube has a massive ad business built around creators making content around games, many of which were shipped by Microsoft (RIP Mixer). And here the company is on the cusp of the next console generation with a moat of its own: a lasting, structural advantage to help it make lots of money over the next five years.
Microsoft has all of these valuable pieces–Candy Crush, Call of Duty, Game Pass, xCloud, hardware–but it hasn’t been able to make them fit together in a way that prints money. “Bring it all together while staying true to what we’ve always done” sounds like a Herculean task, and one the Phil Spencer administration couldn’t figure out either. We’ll see if there’s a new secret sauce this time around, or if the solution is just going to be more rounds of ugly cuts without fundamental improvements to the hardware Microsoft ships or the games you can play on it.
