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If Stephen Elop becomes Microsoft's (NASDAQ: MSFT ) next CEO, the company could sell its Xbox division, according to Bloomberg. Reuters reports that Elop is one of five final candidates Microsoft is considering to succeed Steve Ballmer, making an Xbox spinoff possible, perhaps even likely.
But it would be an unmitigated disaster -- both for Microsoft and for the Xbox itself. If Microsoft is going to remain a relevant consumer company, it will need the Xbox, as rivals, including Apple (NASDAQ: AAPL ) , prepare to assault the living room. At the same time, the Xbox itself -- separated from Microsoft -- would be at a huge disadvantage; Nintendo's (NASDAQOTH: NTDOY ) ongoing collapse demonstrates how difficult it is for a console maker to survive as a stand-alone company.
Why would Microsoft want to get rid of the Xbox?
It isn't that Xbox is a failure -- Microsoft's Entertainment and Devices Division (largely composed of the Xbox) has mostly been profitable since 2008. But compared to Microsoft's other divisions, it's hardly noteworthy. In fiscal year 2012, for example, it brought in just $364 million -- less than 2% of Microsoft's total earnings (I use 2012 here because in 2013 the division was expanded to include Microsoft's Surface tablets).
Splitting off the Xbox could allow Microsoft to focus on core products like Office and Windows. Over the past 10 years, Microsoft shares have underperformed the broader market -- the company's mammoth size many have kept management unfocused and limited Microsoft's upside.
Vulcan Capital, Paul Allen's investment firm, has argued for an Xbox spinoff. Allen no longer has any management role at Microsoft, but as a co-founder, his word might have some weight. Likewise, some Wall Street analysts, including those at Nomura, have written about the potential benefits to an Xbox spinoff.
The war for the living room
But if Microsoft wants to remain relevant in the consumer tech space, it will need the Xbox. Hardcore gamers have criticized Microsoft's decision to include so many entertainment features in its upcoming Xbox One, but those features (like the ability to make Skype calls, control a cable box with voice commands, and get live fantasy football updates) make the Xbox One as much of a smart TV as a video game console.
Apple has reportedly had its own smart TV in the works for years, a persistent rumor that's been supported by public comments from Steve Jobs and CEO Tim Cook. An iOS-powered TV could serve as a hub for an Apple household, expanding Apple's ecosystem into the living room.
It could even act as a game console. Nat Brown, a former Microsoft employee and the co-creator the Xbox, wrote back in February that a fully featured Apple TV or set-top box running iOS, could, when paired with a controller and access to Apple's app store, serve as a powerful video game console -- it could even crush the Xbox.
Certainly, if Microsoft's next CEO wants to focus entirely on the enterprise space, then getting rid of the Xbox makes sense. But if Microsoft wants to continue to compete with Apple in the consumer space, why give up the living room just as Apple is about to enter?
Could the Xbox survive as a standalone company?
As a gamer, the Xbox One intrigues me -- although I don't plan to purchase one at launch, I might eventually buy one. But I definitely won't if Microsoft spins the company off. Console businesses need to exist as part of larger consumer electronics companies -- as stand-alone company, the Xbox will be at a huge disadvantage.
Consider Nintendo, unique in the sense that it's the only console maker that's strictly a video game company. Because it doesn't have any other operations to fall back on, Nintendo has been limited in the hardware it can offer -- Microsoft and Sony have been willing to sell their consoles at a loss; Nintendo doesn't have that luxury.
That was fine when it came to the Wii. Nintendo's console was less powerful than Microsoft's competing Xbox 360, but still outsold Microsoft's device. The Wii U, however, has been notably less successful. To boost sales, Nintendo has been forced to cut the Wii U's price, and is now selling the machine at a loss. That's weighed on earnings; Nintendo lost money last quarter.
Moreover, progress is making modern consoles more complex than ever before, requiring the companies that make them to have a better understanding of different technologies. Nintendo's lack of Internet prowess was fine in an era where multiplayer Internet-based gaming wasn't so prevalent; Microsoft, with its PC expertise, is positioned to offer a better online experience -- indeed, Xbox Live has been widely praised as the best online gaming service.
Spinning off the Xbox would be a mistake
If Microsoft's next CEO decides to sell the Xbox business, investors should take it as a sign of incompetent management.
Getting rid of Xbox would be bad for Microsoft and for gamers. As an independent entity, the Xbox would be likely to fail -- with Nintendo struggling, it's becoming ever more apparent that console makers cannot survive as standalone companies. Microsoft's investors, meanwhile, would see little benefit. Any proceeds brought in from the sale would not be worth ceding the living room to Apple.
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