Corporate Rivalry in the Video Game Industry - Coursework Example

CORPORATE RIVALRY IN THE VIDEO GAME INDUSTRY 2. EXECUTIVE SUMMARY A of the business practices and overall strategies underlying the modern videogame industry are described. Porter’s five forces analysis is used as a basis for the comparison of the competition and overall goals of Sony and Microsoft. A discussion of supply chain economic principles as well as the dynamics of consumer choice are conducted with intersects to the modern videogame industry. Corporate strategies and putative future projections are also given. 3. CONTENTS Introduction ……………………………………………………………… p. 4 Body ……………………………………………………………… p. 4 Conclusion ……………………………………………………………… p. 14 Recommendations ………………………………………………………… p. 14 References …………………………………………………………… p. 15 4. INTRODUCTION The production for a modern videogame is not dissimilar to that of a major motion picture. One has simply to study the end game credits to gain a sense of the equivalent complexity between a Hollywood studio and a videogame studio. The developmental process can require dozens of specialists years of time. There are deadlines, sales objectives, and fortunes at stake. Intense competition is therefore inevitable. The larger, independent corporations include bioware, electronic arts, and Bungie, as a small sample of the market. One of many incarnations of the Star Wars-property videogame, Knights of the old Republic took three years to develop. (Kent, 2001) the requirements for funding such an operation, and paying employees during that process create considerable management and strategic demands. By employing a small army of people under tight schedules with rigorous budgets as well as deadlines, efficient and competent management is needed. The forward-thinking manager must base his objectives upon time-honored principles of business strategy. 5. BODY An excellent strategy would include Porters five forces analysis. To begin with, the overall strategy must be devised before any money is invested. The desired market, the videogame industry – must be thoroughly understood. The goal of the five forces model is to define what might be termed the competitive intensity of a particular market. This factor allows business planners to determine the level of attractiveness in the overall industry. To say that an industry is attractive speaks of the competitiveness of the companies within it, and that measure becomes an early indicator of the markets profit potential. Unattractive markets are experiencing a downturn in the forces that would make it profitable. Attractiveness, and competitive intensity become rubrics by which we can measure the vigor of an industry, which speaks to the viability of potential investments in this particular field. This model was an attempt to add more rigor to the literature concerning market research. (Porter, 2002) Porters Five Forces: 1.Existing competitive rivalry between suppliers 2.Threat of new market entrants 3. Bargaining power of buyers 4. Power of suppliers 5. Threat of substitute products (including technology change) (Chapman, 2009) The five forces assist with the determination of greatest influence in a business situation. Either the suppliers, or the customers will exert power over the pricing and operational strategies of the business organization. This understanding is a vital factor in maximizing the organizations profit potential, and also during projections on ways to expand the operation, or branch out into other market areas. Analysts can use Porters forces to determine whether proposed product ideas or new services are profitable. (Porter, 2004) Among these five forces, there is a delineation between organizational factors and external competition. Most of the forces do relate to competition arising from competitors in the industry, the other two are internal pitfalls that can limit the efficiency, and thus the competitive edge of a business organization. To speak of competition is to invite more precise specificity. The dimensions by which competition can challenge an organization can include: 1.) Alternative products of similar type. 2.) Business rivals with a better established operation (Regardless of whether their product is actually superior). 3.) Competition from new organizations (who may or may not have a more innovative product). (Porter, 1979) The circumstances described above constitute what Porter would describe as horizontal competition, which constitutes obstacles to profitability throughout the landscape of the marketplace. Profit is sharply limited in the film manufacturing industry, irrespective of quality. The reason for this is an example of substitution. Digital cameras and image technology is a convenient alternative to photographic film. A small market does exist, but it will be limited for the immediate future. Another example would constitute the LEGO company/property. Plastic action figures in terms of childs entertainment appear to be declining in popularity. LEGO toysets were once popular amongst children enjoying interactive experiences. But the rising dominance of video games, amongst both children and adults have cut inevitably into the market share of purely plastic entertainment. LEGO, in the interest of survival has branched out into the video game market in a bid to renew their grasp upon their once-consumer base. In addition, other obstacles in terms of competition would include vertical forces that can drain the profit potential from the business organization. These vertical factors relate to bargaining power. Prices for goods and services that the market will support, the infamous fluctuations of which form the essential basis of the stock market. On a smaller level, bargaining – both direct and indirect have a tremendous impact on the bottom line. Challenges arise from the bargaining potential of suppliers, as well as customers. Scarcity and demand may allow suppliers to insist upon higher prices for the same raw materials, or shipping/delivery privileges. Whenever possible, the business organization must attempt to absorb, or pass along such costs within that product sales. Porter may describe this form of bargaining power as the market of inputs. By supplying labor, raw materials, technical components, or even consulting expertise this will grant power over the business organization. The supplier has the ability to exert a form of control as long as there are few alternatives. And should all available alternatives entail a similar cost, then the price of doing business must include these non-negotiable baselines. The inputs in the market of inputs including these fixed costs. If all the manufacturers of cellophane wrapping necessary to package the box for a videogame all charge the same price, or if there is only one such supplier, the business must buy from them. Other classic inputs that impact price profitability would include distribution. It does no good to have the best product in the business if you cannot get it physically into market. Other challenges in terms of supply would also include labor supply, in the form of employee Solidarity as manifested by labor unions. Highly technical industries could not hope to simply replace their entire employee base overnight, even if it were legal to do so. For many industries, including the videogame industry mindless widget hammering in a factory setting is insufficient, skilled labor is a requirement which demands specialized professionals. These and other supplier related factors combine to create fixed costs. Depending upon the marketplace, it may be possible for the business organization to shop around in terms of raw material inputs, distribution, or other components, but at some point some cost is inevitable and must be budgeted. All of these factors create supplier bargaining power. Supply chain competition creates additional complexities in situations with small numbers of manufacturers, or a single manufacturer supplying a large forest of retailers. Business strategists can make the assumption that the particular fortunes of any retailer are highly random, and the price any of them can set are limited by the price of all others. (Bernstein & Federgruen, 2005) Manufacturers have found ways of leveraging such situations to their particular advantage. Supply chains in this case can be coordinated with revenue-sharing contracts favoring the manufacturer. These contracts may require the retailers to share a determined portion of all revenues with the manufacturers. Structures develop in which wholesale price settles towards a reflection of the total manufacturing cost. (Cachon & Lariviere, 2005) Competition between retailers working from a small supplier pool according to some studies has been shown to minimize the double-marginalization effect. Specifically, the series of price mark-ups between cost of manufacture and final distribution to store shelves. Double Marginalization has been shown to cause a successive price increase as successive vertical layers along a supply chain. These mark-ups lead to a higher retail price, and overall lower combined profits throughout the supply chain. These profit losses are greater than they would be if the chain was part of a vertically integrated conglomerate firm. (Procurement Insights, 2007) Competition between business organizations at the retail level enhances the double marginalization effect when those products complement another. Double marginalization losses are relieved for competition of products that substitute another. (Lee and Whang, 2002) This is logical to the extent that complementary competition adds more potential players to the supply chain, not part of the same firm. Thus, costs increase and profits decline for everyone. But the revenue-sharing contracts are a sample of the many ways in which suppliers can exert power over the business organization. But as the above example demonstrates, also have the potential for greater collusion and alliances. A study of the double marginalization principle creates an awareness of potential profit loss between the manufacture and final retail placement of a given product, when not controlled by a single business organization. Limitations in net profits can stem from a variety of causes, including technical limitations and already entrenched competition. Certain businesses based on their personnel and structure can often develop intrinsic weaknesses in particular areas that intersect with the sale or production of their product or service. Two giants in the videogame industry illustrate this point: Sony and Microsoft. Industry pundits have rightly accused Microsoft of weaknesses with respect to hardware. The prior edition of the Xbox console cost the company several billion dollars as a result of the "red ring of death" general hardware failures. (Johnson, 2011) the Corporation that Bill Gates founded from such humble beginnings is a worldwide taken in the fields of software, and increasingly electronics. But the personnel and structure of the firm may limit their expertise in terms of actual hardware construction and maintenance. Their major competitor Sony, seemed to succeed in pioneering a new generation of technological acumen with the much popularized introduction of the PlayStation 3. Yet the initial production, and worldwide distribution of the PlayStation could only be accomplished at a cost of billions of dollars to do the company. It was a gamble requiring the sale of the console at a loss, at least in the beginning. Any business that launches such a campaign must do so on the expectation that initial losses will be recouped later in the form of maintenance fees, repairs, or the place of the videogame industry – in the form of game sales. The privilege of creating software for the PlayStation three would permit the company to levy considerable licensing and or royalty considerations that could be leveraged by an able administrator into long term benefits that compensate for the initial start-up costs. (Hesseldahl, 2006) These factors are borne out by independent analyses which indicate that the PlayStation 3 required a production cost of over $800 for each version released, yet initially sold in the United States for $499. These demands led to an initial loss of $1.7 billion for the first year of release. (iSuppli.com, 2006) A few of the relatively expensive PS3 components that were charted by the iSuppli article include a $129 RSX graphics chip by Nvidia, the $125 blu-ray disc drive, in addition to the $89 IBM Cell processor. (isuppli.com, 2006) These figures do represent a loss to Sony that is considered surprising for many business analysts and videogame industry experts. The disparity is seen as excessive even for the relatively high cost videogame console business. But this is due to the expensive and highly specialized electronic components the console contains. The component costs of the latest PlayStation also serve as an example of a different form of supply-chain double marginalization. The production itself of a console this advanced requires the purchase, and therefore licensing and usage privileges with several other electronic goods. All of which must themselves be manufactured, purchased by Sony, distributed and then used in the assembly of their own device, resulting in an arguably superlative product – but an understanding of supply chain economics grants and added appreciation of the companys start-up costs. Andrew Rassweiler, a senior analyst at iSuppli explains the cost of the unit: “The reason why the PlayStation 3 is so costly to produce is because it has incredible processing power," he explained. "If someone had shown me the PlayStation 3 motherboard from afar without telling me what it was, I would have assumed it was for a network switch or an enterprise server.” (isuppli.com, 2006) Rassweiler further describes the internal components of the console as “somewhat exotic.” But considering the extensive processing power some industry analysts consider the device to be a relative bargain, even at the initial retail rate. Cost estimates indicate a loss of at least $200, and closer to $240 or as much as $306 on the more advanced system. (Hesseldahl, 2006) The Xbox 360 on the other hand, initially cost just over $323 to produce with an initial market retail at $399. Nintendo as well was able to sell its latest Wii console at a profit. (isuppli.com, 2006) Microsoft also saw benefit from the release of the 360 earlier than rival consoles from Nintendo and Sony. The entertainment division of saw sales increase of 70% the year the latest Xbox was released. (Greene, 2006) As mentioned above, other obstacles for Sony include accusations of technical difficulties for online connectivity with their latest console offering (some of it deliberate). (Voigt, 2011) And while Microsoft does purport a near undisputed mastery of software, in terms of hardware longevity they may have shortcomings. For these reasons, as well as the PlayStation startup costs mentioned above there are certain pundits who propose a collaborative effort between Microsoft and Sony for the development of the next console to come. (Johnson, 2011) Merging the operations has the potential of simplifying the playing field in terms of production costs, with the potential of higher profit margins. In addition to the obvious benefits of sharing the revenue from the customers of both companies, a greater pool of experts could resolve technical difficulties. A Corporation with chronic weaknesses in a particular area can easily benefit by absorbing or joining with another firm with a strength in the desired area. Mergers or acquisitions can prove simpler and cheaper than attempting to hire and integrate qualified personnel to shore up weak points. Another company may already have the expertise and personnel in a pre-existing corporate structure. If that structure can be appropriated time and money can be saved. Such an agreement would certainly be only preliminary at this point, although industry experts have noted that a domain name including Microsoft and Sony has already been registered. While this is not indicative of a definitive step in the direction of a corporate merger, it is suggestive evidence. (Johnson, 2011) The essential factors that influence supply chain forces can be summarized as follows: a. The number of suppliers for each given line of necessary input. b. The rarity and subsequent demand of a particular product or service. c. The size of the supplier, and subsequent market share. d. The cost incurred by transferring to a different supplier. In terms of Porter’s five forces strategy, the other form of bargaining power of course, is in the hands of customers themselves. These two dimensions of profitability are distinct but similar principles apply. Essential parallels exist between the choices consumers make in how they service their individual needs, and how the businesses they purchase from choose who supplies them and at what rate. There is no haggling within the retail environment, the printed price for an item, including a videogame is the price. But customers have the potential - guaranteed by antitrust legislation to vote with their feet, or wallets as the case may be. Your printed price may be nonnegotiable, but Walmart or Target might give us better value. Customers bargain indirectly through business patronage. Supplier costs being passed along to the customers will encourage them to choose competing businesses, where a better value is real or perceived. When customers bargain indirectly, Porter might describe it as the market of outputs. Customers put the business organization under constraint, due to a sensitivity to price and value. What do your competitors offer at what price? Would a change in price be noticed by the customers? And what level of change will buyers react to? It is likely that a price adjustment of $.10 might not even be noticed by the customers of new-release videogames, but could prove a swing factor for manufacturers of check-out line impulse items, such as chewing gum or candy bars. The manager must have a sense of customer price sensitivity. If ones business were commercial aircraft manufacture; there would exist only a small circle of companies that could purchase your product in any relevant numbers. No single, private individual could matter more than corporations like Boeing, or Southwest, or Airbus. These buyers can exert great power over civilian aircraft manufacture. Recent semi legal efforts by hackers have revealed Sony’s own attempts to order their market. Not simply in terms of video console game either. Sony’s network challenges reached a crisis point in the Spring of 2011, when hackers forced the company to take down its PlayStation network. This malicious act also secured previously concealed information concerning Sony’s long term business strategy. Yes the PlayStation in its various incarnations is a gaming console, but Sony is also positioning itself to produce a product that will span a range of entertainment services. The hackers reveal expansionist goals by which a Sony console will be able to provide not only gaming entertainment but movies and television as well, in essence becoming an entertainment hub for as many forms of electronic media as possible. (Voigt, 2011) But customers were even more outraged at the company’s delayed confession that the hackers might also have gained access to member birthdates, e-mail addresses, as well as passwords and possible credit card and billing address information. Pundits claim that it is difficult to overstate the disastrous implications that this could yield for Sony not simply in immediate customer antipathy, but going forward into the future. The possibility exists that challenges of this sort might make a putative console merger in the near future even more likely. Addressing this weakness is crucial, as the online component is central to Sony’s 10 year overall strategy. (Voigt, 2011). Any person who owns an Xbox will not be surprised at Sony’s long-term ambitions. The Microsoft console already serves as a portal not only for games, but music movie streaming and to an extent the potential for social networking. In terms of an entertainment hub, the customer does hold a limited degree of power. The Xbox network does allow entertainment and communication, although this functionality is limited unless the customer pays an additional fee. So there is a choice between Microsoft or Sony for the customer that wishes to watch Netflix streamed through their console connected to the TV; or play music, or receive product updates. While the market is certainly not saturated with high-end gaming consoles possessing similar functionalities, the competition between the two giants affords a limited degree of customer bargaining power. That may prove another impetus for the console makers to merge their operations, at least in part. Profit-sharing and central control over a single next generation console with expanded entertainment hub capabilities would limit consumer power, but some form of profit sharing agreement would be a given. Should such a merger take place, efficient management and a well-planned structure could allow both companies – or a theoretical new branch to minimize profit loss along the supply chain between initial production, distribution and eventual retail placement. In essence, Buyer bargaining power is exerted indirectly to drive prices down. It can be summarized by the following factors: a. The number of customers in the active marketplace. b. The potential revenue, and thus importance of each individual customer to the business. (Minimal for impulse items, more for $59.95 new-release video games, considerably more for car purchases. A small number of powerful buyers can often dictate terms and price. c. A cost to the customer from switching to another retailer/supplier. (Porter, 2004) 6.) CONCLUSION Regardless of whether an actual corporate merger between Sony and Microsoft is truly possible, the sound principles outlined above describe the putative advantages achievable through a simplification of the supply chain. It is probable that cooperation will accelerate in a bid to minimize leaks down the line from raw materials, to manufacture, to final distribution in a way that will complement the long term profitability of the triple-A Giants of the videogame industry. 7.) RECOMMENDATIONS The customer must take a long look not only at the merits of the videogame console for the purpose of gaming, but must also evaluate different systems in terms of wider potential. With both Microsoft and Sony hoping to create entertainment hubs for multiple dimensions of electronic entertainment, the decision to purchase a console must be weighed with considerations in mind apart from playing the games themselves. Each customer must determine to what extent it would benefit them to have multiple entertainment venues available from the same device. What sort of savings potential would that create? In addition, the example of the Sony hackers should also create an awareness of the risk factors of dependency upon a single device produced by a single company. REFERENCES 1. Bernstein, F., A. Federgruen. 2005. Decentralized supply chains with competing retailers under demand uncertainty. Management Science 51 18–29. 2. Cachon, G.P., M.A. Lariviere. 2005. Supply chain coordination with revenue-sharing contracts: strengths and limitations. Management Science. 51 30-44. 3. Chapman, A. 2009. porters five forces model. Michael E Porters five forces of competitive position model and diagrams. businessballs.com. http://www.businessballs.com/portersfiveforcesofcompetition.htm. Accessed: 1/19/2012. 4. iSuppli.com: 60GB PS3 Costs $840 to Produce. Www.next-gen.biz, 16 November 2006: Accessed: 1/21/2012. 5. Green, J. 2006. Microsoft: Waiting for Vista, Zune. Bloomberg Businessweek. http://www.businessweek.com/technology/content/oct2006/tc20061026_919163.htm. Accessed: 1/21/2012. 6. 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New York; London: Free Press 13. Procurement Insights. 2007. Double Marginalization and the Decentralized Supply Chain. Blog WordPress.com.http://procureinsights.wordpress.com/2007/08/09/double-marginalization-and-the-decentralized-supply-chain/. Accessed: 1/20/2012. 14. Voigt, K. 2011. PlayStation hack hits Sonys global strategy. CNN Business360. http://business.blogs.cnn.com/2011/04/28/playstation-hack-hits-sonys-global-strategy/. Accessed: 1/21/2012. Read More