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How Microsoft Corporation Keeps Getting In Its Own Way With the XBox One

By Daniel B. Kline - Jan 4, 2015 at 10:06AM

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The company finally finds a winning strategy, and now it's abandoning it.

After a year of bumbling with its Xbox one game console, Microsoft (MSFT -0.03%) finally found a way to outsell Sony (SONY -0.08%) and its PlayStation 4. 

The company saw some sales success when it dropped the Kinect motion sensor in June, which allowed it to match its rival's base price of $399. Microsoft took things a step further this holiday season by lowering the cost for the Xbox One again to $349. That price dropped to $329 on Black Friday, and the overall value was even higher as the lower-priced consoles were also sold in bundles with sought after games, headsets, and other goodies.

It was a bold strategy for Microsoft -- sell consoles at a loss to gain market share -- but it's one that clearly worked. While the final numbers are not in for December, Xbox One outsold PS4 in November, and looks to have done so through the end of the holiday shopping season. 

Microsoft, which can certainly afford to subsidize device sales, found a winning strategy and went a long way toward proving that price was the deciding factor for the majority of consumers when it came to buying a next-generation console. So, of course, with the holidays over and peak shopping season behind us, the company has dropped the $349 promotion and, as of Jan. 3, raised the cost of the Xbox One back to $399.

That's a curious move, one that could stop Xbox One's rising momentum and allow Sony, which due to struggles in other divisions cannot afford a price war with Microsoft, to stay in the game. Microsoft could have priced its rival -- well, if not into irrelevancy, at least into less relevancy, but it chose to back off. The path to victory was there, but Satya Nadella and company chose to not walk it.

Microsoft sold Xbox in a number of different bundles this holiday season. Source: Microsoft

Not learning from history
When both companies launched their new consoles in Nov., 2013, they took different approaches. Sony focused on gameplay, while Microsoft spent much of the lavish Xbox One launch press conference showcasing how the console was an entertainment hub for the home, not just a gaming system. The Kinect was key to that strategy. Microsoft though that consumers would be willing to pay an extra $100 for the ability to control their televisions with hand gestures and the other vaguely cool things the motion sensor allowed. 

They weren't.

From launch PS4 outsold Xbox One, and while neither company regularly reports sales figures, Sony essentially sold two of its devices for every one Microsoft moved. In the early days, you could guess that price was a factor -- especially when high-profile game exclusives, including Electronic Arts'  (EA -0.04%) Titanfall, failed to put Microsoft on top -- but it wasn't proven.

When Kinect was dropped and Xbox One lowered its price to match Sony's, however, Microsoft drew closer in monthly sales. When the price was cut further beginning in November, Xbox One began to outsell PS4, perhaps handily.

Now it seems definitively proven that pricing matters most, yet Microsoft has chosen to give up its advantage and go back to $399. It's hard to see how that won't result in a sales slowdown and gains for Sony.

Microsoft can fix this 
While the cut had always been promoted as being temporary, its success should have led to a new, permanent lower price. Even if you assume Microsoft ate the entire $50 cut on each device sold, that money is irrelevant if the company can make its console the market leader.

If Microsoft gets a 30% cut of any digital downloads from its Xbox Live store, $50 would be recouped after three premium ($59.99) game sales. Use the same figure for its cut of a subscription service -- perhaps WWE's network  ($9.99 a month) -- and the deficit goes away in 17 months.

But, of course, few if any Xbox owners will only buy three games or use the console as a dedicated player for one subscription service. Placing an Xbox One in a home essentially creates a mini store in that person's living room. This was valuable for the previous console generation, but it has become exponentially more valuable now that games are increasingly sold through downloads, and the number of paid apps, services, and other ways to spend money from a console have exploded.

Microsoft is making a mistake here, but it's an easy one to fix. Make the $349 cut permanent and Sony either has to follow, which it may not be able to afford to do, or risk falling behind.

Price matters most, and a $349 Xbox One has a chance to become the clear console leader, while a $399 Xbox can at best hope to be a close number two.

Daniel Kline owns shares of Microsoft and World Wrestling Entertainment. His son got an Xbox One for the holidays. The Motley Fool owns shares of Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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