Goldman Sachs: Microsoft should split off 'unprofitable' Xbox dept

Analyst chastises firm's performance, offers fixes and claims focusing on business and consumer a mistake

Analyst Goldman Sachs has downgraded Microsoft share recommendations from 'buy' to 'neutral', and suggested that one way to resolve the firm's apparent difficulties is to split off its consumer entertainment division.

In a new report (as seen by TechFlash), Goldman Sachs claimed that "A break-up of the consumer businesses could potentially unlock hidden value, or more discipline on cost could turn the businesses into contributors to profitability and shareholder value.

"To date the company's comments suggest that management still sees significant value in combining the consumer and enterprise efforts, but we view a foot in both camps as preventing a successful focus on one strategy, a la Oracle in the enterprise or Apple for consumers.

Clarified Goldman's Sarah Friar, "The Xbox products could be an appealing stand-alone entity, given the historical success of the Xbox and the products' brand strength, and the business could show unlocked value with forced cost discipline compared to as a piece of Microsoft."

Goldman blamed an "elongated PC refresh cycle" and the rise of tablet devices for its 4 per cent lowering of Microsoft's earnings estimates.

To address this, the analyst claimed, Microsoft would need to increase dividends in order to lure more investors, to pursue market leadership in cloud technologies and, damningly, "a coherent consumer strategy that could involve paring back investments and/or divesting more peripheral assets such as gaming."

In Goldman's valuation of Microsoft's various divisions, Entertainment & Devices (which includes Xbox) came out the lowest, at $3.6 billion.

By contrast, Windows/Windows Live was pitched as $107 billion, the business division at $99 billion and servers and tools at $43 billion.

Of the Xbox division, the analyst claimed that "Kinect expands the addressable market and could be key to higher profitability" and "Xbox Live [is] one of the largest paid Cloud communities in existence, offering Microsoft a door into the highly sought after consumer living room."

However, "The division is yet to turn profitable, once corporate overhead is allocated."

While Microsoft has yet to respond to Goldman Sach's recommendations, industry figures have been vocal in their disagreement. " Pulling this off would be like Microsoft learning Geller-ian magic tricks, the equivalent of being able to bend spoons with its brain," said investor Paul Kedrosky.

Added analyst Matt Rosoff to ComputerWorld, "I think it's silly to spin off a profitable business. Xbox would lose more than it would gain by going it alone." Rosoff felt that the company would be better off carving its search business, due to the complexities of competing with Google.

Microsoft share price fell by 2 per cent following Goldman Sach's report.

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Latest comments (28)

Laurent Benadiba CEO, SDP Games11 years ago
This article is titled negatively with the three red rings of the xbox and the 'unprofitable' title, while Sachs comments are on the contrary quite positive about the xbox dept, suggesting it's a hidden gem within Microsoft and it'd be better to split it off.

I call for misleading title...
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Josef Brett Animator 11 years ago
I second that!
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Richard Alpagot11 years ago
Basically it's just a bank saying: " Look you could make more money this way". It doesn't mean Microsoft should do it. I for one like how well rounded their portfolio is. I think having such variety in-house does help with product development as well with easier access to resources.

Legal costs are also massively reduced this way. You'd think it would take more than one establishment to come out and say something negative for a share price to take a dent like that...
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Show all comments (28)
" However, "The division is yet to turn profitable, once corporate overhead is allocated." "

It's true that the body of the article is ambiguous. Without MS's very deep pockets I think xbox would have disappeared long ago. A bold analyst that suggests it would do well as a stand-alone.
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Carl Muller Programmer, HotGen Ltd11 years ago
Do they think that the value of the Xbox brand is because of its cool name, and not the strong links with the development department at Microsoft, with DirectX, XNA and Visual Studio making it easier for developers to create games on the system? I don't think many people would leap on Xbox 4096 (or whatever random number they use) if it has rubbish (or no) development tools.
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Heinz Schuller Art Director / Artist 11 years ago
Goldman Sachs, the same geniuses who led the front line of international economic collapse, see a spun-off xbox business unsupported by it's corporate parent as a good business opportunity. How can I get in the ground floor of this? Down is the new up!
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Joe Bognar PR Specialist, Asus11 years ago
I just don't understand hwy would even anyone listen to people like this. Something is working fine and someone wants to come in and kick the bucket for Xbox. Leave them be. It really is a developing and - in my opinion - very hard working department that can even grow up to GS's expectations.
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Joe Bognar PR Specialist, Asus11 years ago
@Lauren: It is to grab your attention btw. I logged in straight away! lol
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Glen Elliott Partner/Head of Sales, European Game League11 years ago
I agree, the title is misleading, Goldman still rates Microsoft as Neutral/Attractive with a target price of 28.

"Goldman blamed an "elongated PC refresh cycle" and the rise of tablet devices for its 4 per cent lowering of Microsoft's earnings estimates. " - This here seems to be why they lowered the estimation.

"Microsoft share price fell by 2 per cent following Goldman Sach's report." This was more or less inline with its peers on the 4th (report released on the 3rd), not just due to the report.

Also Credit Agricole, UBS and Jefferies have all published their own analyst reports over the last couple of days, all with Buy recommendations
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Belly Jean11 years ago
It's supportive and intelligent comments like these that make me proud to be a part of this community! For my 2 cents worth: A single company division valued at 3.6 billion dollars is far from failing. I don't think the headline is misleading, rather Goldman Sachs are failing to see the holistic picture. Considering the way M&A works, it's hard to understand their point here. Perhaps it's the old magician's trick of misdirection... to take our attention away from something like THIS?
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David Spender Lead Programmer 11 years ago
This makes it sound like the XBOX division is Microsoft's charity for gamers since apparently they have been selling everything at a loss from day one.
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Glen Elliott Partner/Head of Sales, European Game League11 years ago
@ Nick

The title is misleading, saying that Xbox is unprofitable, when in the actual report (I have a copy if anyone wants it, please pm me) it says nothing of that nature.

Quick glance at it (its 27 pages!), It points out that it sees the Windows and Office franchises unlikely to improve, its falling behind even more in the tablet wars, and is getting hammered in the mobile phone os wars.

It did say the E&D was unprofitable, but didnt solely point the finger at Xbox (E&D includes Windows Phone), the report does however suggest spinning off the Xbox into a stand alone entity due to its historical success (proving that Xbox is the gem in E&D)

This piece was however the funniest: "which suggests more upside in other Buy-rated
names in our coverage." ie Goldmans pushing its other names it holds shares in!
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John Blackburne Programmers 11 years ago
I've not read the report but can see why they'd recommend hiving off the Xbox. It is profitable but that's not a reason to hang on to it. A good reason would be if there are synergies with MS's core businesses: Windows, Office, servers. But after ten years and lots of predictions this has not happened. It's cost MS a lot to get the Xbox to where it is: fourth behind Nintendo, Sony (PS3 and PSP) and now Apple (who recently overtook MS's market cap, which can't be fun for MS stock holders). It might be better to let it go and focus on their strengths and expanding Windows installed base to e.g. phones, tablets.
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Andrew Goodchild Studying development, Train2Game11 years ago
It seems as if expert analysts are wrong as much as they are right, and as someone else mentioned, if Goldman Sachs know so much, how come they played such a part in the global economic collapse? If I was a business analyst I'd suggest lending money to people who look like they can't pay it back is a bad move, but what would I know.
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Justin Alderman News Editor, Brutal Gamer11 years ago
I suspect that things are even worse with the Xbox 360 than is even known. In addition to the Xbox this division also includes sales of the Zune, PC games, "various hardware products" (like keyboards), etc.

I have a feeling that a lot of these other products absorb a lot of losses from Xbox related activities.

ETA: If the Xbox was it's own company I doubt that it would be around long.

Edited 1 times. Last edit by Justin Alderman on 6th October 2010 5:30pm

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Rameses Lian indie developer 11 years ago
"However, "The division is yet to turn profitable, once corporate overhead is allocated"

The actual report is fairly insightful, but E&D unprofitable comment is misleading and probably untrue. Microsoft announced E&D generated $679M last fiscal year. If Microsoft is spending $679M in corporate overhead just for E&D, that company has even more serious challenges than what Xbox faces.
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Laurent Benadiba CEO, SDP Games11 years ago
Also running the xbox business requires substancial investments. I mean look at Kinect or Halo launch, would an independant company be able to pull this out, still making the hardware and pushing the software with no other back up than public investors? I think not.
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Howard Parry11 years ago
Being an analyst must be the most forgiving job in the world.
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Nicholas Lovell Founder, Gamesbrief11 years ago
There is a lot of misunderstanding of what analysts do.

Also, in my experience, analyst reports never move markets. That 2% fall will be due to some other factor (I'm not currently close enough to the markets to say what it was).

I can absolutely see GS's point: Xbox is a minnow in the context of Microsoft; if the company were independent, with independent management like, say, Nintendo, the improved focus, discipline and market visibility could easily unlock a lot of value.

As it is, Xbox is probably a rounding error on most investors' analysis of Microsoft's prospects, and more likely to be a risk than an opportunity.
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Laurent Benadiba CEO, SDP Games11 years ago
Nicholas: How can it be so? Microsoft having a clear success in the entertainment market, even if not profitable right now (although with recent releases it'll be soon); and given the market curve of the xbox 360; how on earth can this be a risk ?
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John Blackburne Programmers 11 years ago
Another point is that in some ways the Xbox platform needs to compete against MS. The biggest gap in the Xbox strategy is there's no portable Xbox. There should be: they should have done the same as Sony and made a portable out of their last generation. But that would compete against other devices running MS software, such as phones and tablets. It might also make it easier to extend the platform using non-MS software: a Webkit based browser maybe.

As for whether it would survive, if it can only do so with a permanent subsidy from MS's profitable software divisions, but provides no benefits to them, them MS should close it down as a loss-making distraction. But I don't think that's the case. On its own it could attract new investments from investors and companies that normally compete with MS, while investors could choose whether to invest in the stodgy OS/application business or the new and dynamic games business.
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Nicholas Liu Studying Bioinformatics, University of Alberta11 years ago
Well, xbox has always been Microsoft's attempt to break into the home entertainment system market after the flop that was webtv. As it stands, the Windows/Business/Server markets are already more or less mature - and are possibly shrinking (but let's not get into a fight about the merits of linux/macos here). Microsoft really wants to position the 360 as the be-all do-all of your home entertainment system, leveraging a PC as the media centre component, value added services through LIVE subscriptions (ESPN and other sports channels, video chat with other friends through kinect, social network integration - twitter, facebook,, and games (which I'd argue they're using to propel themselves into people's homes).
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Private Industry 11 years ago
What MS needs to get rid of are the parts responsible for the very very very failed Mobile Phone and Zune, those two devices where a waste of money.
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Jamie Watson Studying Bachelor of Games & Interactive Entertainment, Queensland University of Technology11 years ago
how is the zune and mobile phone failed? the zune is highly popular and MS is about to release Windows Phone 7....

also about goldmans comment,how is that a smart move?

wouldnt having the bigger team/network be better for working with compared to a smaller split team... i would think the more resources a company/department has would make them more effiecent...
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Private Industry 11 years ago
Zune is far far far away from the iPod in sales and it`s MS, being that far behind the competition can`t be what they want and therefore a failure not to mention the device is not even available anywhere in Europe that shows how much MS believes in the product. Having a single digit % market share is not highly popular.

Was referring to the Microsoft Kin and how well the Windows Phone 7 will do still needs to be seen.

It wouldn`t hurt MS to make the Xbox division more like what Sony did with the SCE division that is clearly it`s own part and not mixed up with the mobile phone or MP3 player division. The different parts of Sony still work together, but SCE has all the people and money they get only for the gaming stuff and don`t have to share people/budgets with something else. What might look liked less resources at the first glance could be the same amount of resources or even more when not shared with other parts of the division.
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Kirill Yarovoy Game designer / Narrative designer / Writer 11 years ago
Looks like we have another Michael Pachter.

These guys reminds me street prophets, they both talk something which makes no sense, but makes them money or name.
Both never give a thing about validity of their "prophecy".

I wonder, why Gaming sites and magazines keep posting articles about IMHO of some individual self-proclaimed analysts, when nobody listening them?

Edited 1 times. Last edit by Kirill Yarovoy on 7th October 2010 5:18am

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Jonatan Crafoord Indie Developer, Really Interactive AB11 years ago
Ah, another management consultant intern having a go at suggesting strategies for one of the world's oldest and most successful software companies. :-p

Maybe they could sell Xbox to Apple? Now, that would actually be something.
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Kirill Yarovoy Game designer / Narrative designer / Writer 11 years ago
lol that would turn to iBox then or MacBox ))) And Jobs will start another crap-pr-lie-talks "today apple re-invents gaming consoles" and will talk a hour or two about big shiny buttons in iBox UI ) And everything by Adobe, including flash, will be banned on it, including every game that uses flash for ui via scaleform or something like this)

U see - Im uber analyst too, haha)

Edited 2 times. Last edit by Kirill Yarovoy on 14th October 2010 12:48am

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