Stock Ticker: Sony
Japan's markets have lost patience with Sony's restructuring. Is a tighter focus on PlayStation the only way forward?
What we used to call a "rough few years" for Sony is rapidly on its way to becoming a rough decade - and it's only getting rougher. Last week's financial reports were nothing short of absolutely dreadful - the small loss (¥1.6 billion) is nothing to cheer about, but is overshadowed by the much more worrying decline in sales, which dropped nearly 10 per cent to ¥1.5 trillion.
Forecasts imply that that 10 per cent drop in sales is unlikely to recover in the near future, while profits are expected to continue to languish down around the break-even point. It's not quite catastrophic stuff, at first glance - the company isn't haemorrhaging cash, at least - but when you consider that this is meant to be the tail end of CEO Sir Howard Stringer's far-reaching reforms to get Sony back on track, suddenly everything looks rather bleak.
The problem with assessing Sony, of course, is that what we're really interested in is only one division of the company - the PlayStation business. Dividing that business off from the rest of the company is tricky, especially when it comes to stock market movements, and it's especially difficult now that the PlayStation business is bundled with the LCD television business as part of the Consumer Products and Services division.
The past 12 months have been the worst year for Sony since the 2008 financial crisis
As such, the overall fortunes of Sony as a company don't directly reflect the fortunes of PlayStation. The price cut to the PS3 back in August may have had some marginal impact on the company's figures this quarter, certainly, but overall the PlayStation business is a bright spot - consoles sales of both PS3 and PSP were up (the latter somewhat surprisingly, given the imminent launch of PS Vita), while PS3 software sales also rose.
Yet even though it's important to bear in mind that the PlayStation business is right now stronger than it's been at any point since the launch of PS3, it's also informative to look at Sony Corporation in wider focus - because after all, the health of the company as a whole has a huge impact on the muscle which it can bring to bear on the games industry and the home entertainment sector as a whole.
The health of the company as a whole, from the perspective of the markets, is sadly not very good at all. Here's the graph for the past year:
This steady drop in share price - punctuated by the familiar heavy dip following the Great Tohoku Earthquake in March - actually makes the past 12 months into the worst year for Sony since the 2008 financial crisis. There are a number of possible explanations for the weakness, but the most convincing is simply this - that the markets have lost faith in the direction Sir Howard has brought the company, and no longer believes that his reforms are going to bring Sony back from the tough position in which it's found itself.
Yet there are other explanations, some of which deserve consideration. Most notably, Sony is a business that's immensely focused on exports. Although it does have a significant domestic Japanese market share, for the most part it's still structured like many other businesses from the post-war decades in Japan - its fortunes rising or falling depending on its ability to achieve success in export markets.
The markets have lost faith in the direction Sir Howard has brought the company, and no longer believe in his reforms
As such, three key events this year have had a potential bearing on Sony's stock price - firstly, the historic highs of the Yen on the international markets, which have been so catastrophic for export-led businesses that the usually placid Bank of Japan has been forced to step in on multiple occasions to attempt to slow the appreciation of the currency. Second and third are a pair of natural disasters; the Touhoku earthquake, of course, caused supply chain problems for many manufacturers, but less obviously, the ongoing flooding in Thailand has also submerged many factories involved in supplying high-tech businesses under metres of muddy water. Sony, Nikon and Honda are among the worst-affected of a host of tech businesses facing knock-on difficulties from this.
It's worth looking, therefore, at Sony's performance relative to the rest of the Tokyo Stock Exchange - after all, thanks to a combination of the above factors, this hasn't exactly been a stellar year for Japanese stocks in general. Sony itself attributes its poor performance to the Thai floods and currency difficulties, so we'd expect to see that other Japanese companies (many of the largest of which are equally export-led) are experiencing similar problems and dragging the Nikkei 225 index down with them.
Or, perhaps not. In fact, this graph is somewhat kind to Sony, since measuring from exactly 12 months ago gives us a starting point where the Nikkei was high and Sony somewhat low, so their relative change figures actually look a bit better for Sony than a longer-term graph would suggest. However, the 12 month sample still paints the picture pretty well. Sony tracks the Nikkei up until the earthquake, but where the Nikkei continues on a reasonably even keel after mid-March, Sony drops off heavily and continues to do so right up to the present point.
Just about every company in Japan is taking a battering from the exchange rate, and a huge number of large export-led companies have been afflicted by the Touhoku Earthquake, the subsequent power shortage concerns across eastern and north-eastern Japan, and most recently the Thai flooding. It's arguable that Sony has more exposure than most to some of these problems, especially the Thai flooding, but the reality is that the malaise in Sony's share price dates to well before the Thai floods. There's a much deeper problem in how the markets perceive Sony right now. I'd argue that the original argument stands; Japan's markets have lost confidence in the ability of Sony's management to turn the company around.
That brings us neatly to the next graph, which is likely to raise eyebrows among followers of the games business. Sony is a company which, in my view, has no clear forward strategy and lacks the confidence of the markets in its ability to restructure itself into a growing, profitable business - yet thanks to its global span, brand recognition and massive inertia, continues to enjoy fairly large (albeit declining) quarterly sales. In these factors, it's arguably not dissimilar to Nintendo, another firm whose large sales base belies the uncertainty over its ability to remain relevant in a rapidly transitioning market.
It would appear that traders on the Japanese markets agree with the assessment which equates the struggles of these two companies, because their graphs mirror one another to an almost eerie degree.
In fact, over the past year, the two companies have lost almost exactly the same proportion of their share price value, and have done so in almost precisely the same pattern. Despite the huge diversity of Sony's business by comparison with Nintendo's tight focus on games, the reality is that from a market perspective, they're both just consumer electronics firms - and as such, they're both open to exactly the same challenges and stricken by exactly the same difficulties, such as exchange rate and uncertain forward strategies.
Yet from our point of view in the games business, it's important to refer back to the focus on the PlayStation business specifically. The reality is that while Nintendo and Sony face similar problems, there's a sharp contrast between Nintendo and PlayStation. The PlayStation business has had a tough few years, but it's presently growing fairly well, and there's strong excitement around PlayStation Vita - as well as the beginnings of an intelligent mobile strategy through the firm's PlayStation Suite initiative.
The reality is that what's dragging Sony down isn't the PlayStation business - it's almost everything else, and especially the LCD TV business, which is frankly nothing less than a costly, idiotic millstone around the company's neck. The worrying reality is that after half a decade or more of cuts and restructuring which were strongly implied to be so painful as to be well outside the company's comfort zone, Sony is still treating businesses which are a pointless waste of time and money as core business units - allowing its figures to be dragged down, quarter after quarter, by either blindness or inertia which prevents the firm from getting out of market sectors which will never be profitable again.
What's dragging Sony down isn't the PlayStation business - it's almost everything else, and especially the LCD TV business, which is frankly nothing less than a costly, idiotic millstone around the company's neck
The LCD TV business is absolutely emblematic of the rot at the heart of Sony's strategy. It's an area in which the company has an incredible track record and history, but that history is blinding Sony to the modern reality - that LCD TVs have become a cheap commodity product, easily and cheaply manufactured in South Korea, China or in emerging markets like Vietnam and Thailand.
Even if Sony moves its own manufacturing to those locations - as it has done in many cases - it's still faced with the overheads incurred simply by being a Japanese company, and it faces rivals which receive massive subsidies and backing from their national governments, either overtly or covertly. In private, Sony's most senior executives express anger at seeing their latest TV models being undercut over and over again by manufacturers like Samsung, a strategy which they believe is encouraged and funded by the South Korean government - yet the obvious logical step to a recognition that the LCD TV market is no longer a worthwhile business for a firm like Sony has never been made.
(I had hoped to include a comparison graph of Sony and Samsung's share prices here, but unfortunately, historical data from the Seoul stock market is not available to me in a usable form. Suffice it to say that despite the dip caused by its legal battles with Apple - which the markets quite rightly expect it to lose - the South Korean firm's shares are up around 25% for the past 12 months, compared to the 45% loss in value for Sony.)
The same is true, albeit to a lesser extent, of many of Sony's other business areas. Music players, a field pioneered by Sony, have been devoured from two angles - by cheap commodity manufacturers at the low end, and by expensive smartphones at the high end. Cameras, on the other hand, have been replaced by smartphones at the low end (it's worth noting that the excellent camera in Apple's latest phone, the iPhone 4S, is actually manufactured by Sony), while the high end remains dominated by Nikon and Canon, a pair of companies with such immense inertia behind them in the SLR market that it would take catastrophic failure by both of them to push any significant market share in Sony's direction.
Mobile phones remain a potential growth market, as Sony indicated by its recent purchase of the Ericsson business, finally folding its Sony Ericsson joint venture into the company completely. PlayStation Suite will be a key part of any push in this corner of the business - but the company must be wary of the potential commoditisation of the Android phone market in particular, and will no doubt be mindful of the fact that the companies which dominate Android right now are South Korea's Samsung and Taiwan's HTC, firms from exactly the kind of territories which have ripped the heart out of the LCD TV market.
What Sony desperately needs to do is to step back from its business and be willing to prune away any sectors where it cannot differentiate itself from the box-shifting firms in continental Asia with whom it competes
What Sony desperately needs to do, then, is to step back from its business and be willing to prune away any sectors where it cannot differentiate itself from the box-shifting firms in continental Asia with whom it competes. Music and movies, of course, are good examples of this, but the really shining example is none other than the PlayStation business itself.
PlayStation is something that no rival can replicate (at least, no box-shifting rival can; one could argue that copying PlayStation is exactly what Microsoft has done), at once both a powerful brand and a family of products which are in no danger of being copied and commoditised by Chinese, South Korean or Taiwanese manufacturers. It's been argued for years, both within Sony and without, that the firm needed to focus its future strategy around PlayStation - never has the truth of this assertion been more clear.
Unsurprisingly, Sony has much to learn from Apple in this regard, since arguably Apple's greatest triumph (fantastic marketing and design aside) has been the creation of an ecosystem around its iDevices - linking together laptops, phones, music players and (to a certain extent) set-top boxes with the iTunes Store and latterly iCloud to create a seamless experience that keeps customers engaged with and loyal to the firm. The graph speaks for itself, in this regard.
Sony's attempts to create that sort of integrated service environment with PlayStation have, thus far, been patchy and scattered. They speak of a company still riven with internal conflicts, and worryingly, of a CEO who - in my own experience - is not terribly au fait with the PlayStation business, despite the likelihood of it being the lynchpin of any future success. Sony needs to do better, and with the markets being so resoundingly in agreement with that statement, it's clear that Sir Howard's days may be even more numbered than his planned 2013 retirement suggests.
The glimmer of hope, however, is that his mooted replacement is Kaz Hirai - a man who thoroughly understands PlayStation. Whether he has the bottle required to take on the vested interests within Sony which have continued to propel businesses like LCD TVs lurching forward, economic zombies feeding mindlessly on the profits of the firm's other divisions, is another question entirely.