Porter’s Five Force

Analysis of the
Gaming Console
Industry
ECO 610:Managerial
Economics
Professor: Ken Troske

Nikos Anagnostopoulos
Contents
Introduction............................................................................... 2
Internal Rivalry .......................................................................... 3
Threat of Entry........................................................................... 5
Substitutes & Compliments ....................................................... 6
Supplier & Buyer Power............................................................. 7
Conclusion ................................................................................. 8
References ................................................................................. 9

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Introduction
The video gaming industry is one the most profitable industries in entertainment.

In terms of total revenue, it has surpassed both the music and the film industry (See

Reference 1) and is one of the leading forms of entertainment. Revenue in 2012

reached $79 billion and the industry is projected to grow in the coming years

according to research firm Gartner (See Reference 2) reaching $111 billion by 2015,

with consoles accounting for almost half of it. This growth is fuelled partly by the rise

in mobile gaming and also due to the release of the next generation gaming consoles

by Sony and Microsoft, the PlayStation 4 and the Xbox One in 2014. Nintendo also

launched its own next generation console in late 2012, called the Wii U.

As new and advanced technologies emerge, gaming consoles will only get better

and will continue to play a leading role in culture and entertainment. A report by the

ESA (See Reference 3) published in 2014 estimates that 59% of Americans play video

games and each average U.S. household owns at least one device which plays games,

with the average age being 35 years old. Among these households, nearly 70% plays

games on a console.

Hardware devices produced specifically for gaming can vary in size, specifications,

portability and functionality. The concept of what a gaming console should look and

function like was born in the early 70s when the first dedicated gaming console was

released (See Reference 4). They are primarily stationary boxes which required the

use of a television set to display the game. Also referred to as platforms, their

specifications are tailored for gaming and produced by a single company.

The industry has been dominated by three console manufacturers in the last 14

years- Nintendo, Sony and Microsoft. Nintendo (See Reference 5) was the first of the

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three to enter the market, establishing itself as one of the industry leaders and is

arguably the most experienced of the 3. They have introduced several consoles

starting in the late 70s and are the only company out of the three whose primary

and only business is videogames. Nintendo is widely regarded as the company which

brought gaming to a broader audience. They are known for their constant

innovation. They are the first company which incorporated motion control in their

console, the Wii in 2006. Sony and Microsoft entered the market several years. Sony

first attempt at a video game console was the release of the PlayStation. Released in

1995, it was a huge success, managing to sell 100 million consoles making it the first

console to ever break that barrier (See Reference 6). With the PlayStation, Sony

managed to establish itself as the dominant console manufacturer at the beginning

of the 21st century. Its second console, the PlayStation 2, is the most successful in

history (See Reference 7). Sony went on to release the PlayStation 3 in 2006 and the

PlayStation 4 in 2013. Microsoft was last to enter the market, introducing the Xbox in

2001, the most powerful console at the time. It was followed up by the Xbox 360 in

2005 and the Xbox One in 2013. Microsoft also launched its online gaming service,

Xbox Live, along with the Xbox. This was a major milestone in the history of gaming

consoles, allowing the industry to evolve and grow even more (See Reference 8).

Internal Rivalry
Due to the fact that there are few competitors in the market and the industry is

growing constantly, the gaming console industry is a highly competitive market.

Nintendo, Sony and Microsoft compete in order to outsell each other and increase

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their market share. They also compete for the same resources and the same

customers. Each of them follows a different strategy in order to achieve this.

Nintendo mostly target the casual gamer and is more family orientated (See

Reference 9). Although in terms of specifications and graphical power, its consoles

are not on the same level as Sony’s or Microsoft’s, they offer unique features such as

motion control or the ability to use the controller as a second screen. Nintendo has

also incorporated a low cost strategy offering the most affordable console, therefore

encouraging more sales (See Reference 10). On the other hand Microsoft and Sony

offer very similar consoles, with identical technical specifications. They are also

similarly priced and are targeted towards the hardcore gamers. Microsoft and Sony

charge more for their consoles because they are more powerful. In terms of product

differentiation, there aren’t many differences between the two making Nintendo

more of an indirect competitor.

Console prices are generally high when the product is first released and as a result

not many rush out to buy it. This means that there is a high price elasticity of

demand. As the console moves through its lifecycle it becomes cheaper making it

more accessible to consumers therefore resulting in increasing sales. Brand loyalty is

a major deciding factor for a consumer which leads them to keep coming back and

buying consoles from the same manufacturer regardless of price and performance. It

is important for competitors to try and persuade consumers to buy their product

since it is highly are unlikely to switch in the future due to the high switching costs. In

order to achieve this companies cooperate with software developers and produce

exclusive games which are only available on their platform. Other strategies include

releasing limited editions of their consoles, and bundle deals which offer the console

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with an array of accessories or games in order to tempt customers away from

competitors, where the total cost is usually lower than buying each item separately

(See Reference 11).

Threat of Entry
Threat of entry in the industry of gaming consoles is low due to a range of several

factors. Nintendo, Sony and Microsoft have been around for several years having

established such strong products discouraging potential entrants from entering the

market. Entering the console industry has a high capital requirement because of the

high fixed costs and the continuous investment in research and development of new

technologies, advertising and marketing. Microsoft spent $100 million just to

develop the new controller for its next generation console, the Xbox One (See

Reference 12). Also discouraging is the fact that entering the console market means

that the company will most certainly have to suffer losses in the first years due to

the steep learning curve and the huge economies of scale that exist in the industry

(See Reference 13). For example, it took Sony nearly 4 years to turn a profit with the

PlayStation 3. Since its debut in 2006 each console was sold at a loss until it managed

to lower manufacturing cost by using an improved graphics chip (See Reference 14).

Brand equity also plays a distinctive role in the console industry, influencing buyers’

purchasing decisions. This is especially true for less informed consumers who are

more likely to decide which console to buy based on the company’s reputation. A

recent survey shows that potential buyers and owners of previous generation

consoles would rather stick with the same brand than switch sides (See Reference

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15). New entrants could also face problems in other areas such as establishing and

securing access to distribution networks and retailers. Since game consoles rely on

the video games available on the platform, retailers will only carry the hardware if

there is large library of games available for the platform. Finally, if a new competitor

eventually manages to enter the industry they should expect some form of

retaliation from the other firms such as aggressive pricing strategies.

Substitutes & Compliments

The main compliment for game consoles are the games available for each

platform. Games can either be developed internally or by third party developers.

High quality games can lead to greater sales. This is the reason that Microsoft, Sony

and Nintendo purchase major development studios in order to produce exclusive

games (See Reference 16 & 17). Other compliments include gaming accessories such

as controllers, steering wheels and headsets (See Reference 18). There is also a

requirement for a television set or a monitor in order to display the output of the

console.

Many alternative substitutes exist in the market, with the level of threat

considered to be medium to high. Substitutes like movies, recreation, boards pose a

low threat since they aren’t directly connected to gaming. The biggest threat comes

from PC and mobile gaming. Many consumers nowadays own laptops, tablets and

mobiles. According to a report from gaming industry watchdog PC Gaming alliance

(See Reference 19), the sales of PC games has increased, with annual growth

reaching 8%. Mobile gaming is also on the rise. The introduction of gaming

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applications on mobile devices has given gamers the opportunity to have new

entertainment options at their fingertips. It has been reported by Research and

Markets that gamers are moving away from console and PC gaming towards games

on mobile devices such as smartphones and tablets (See Reference 20). It is one of

the fastest growing segments on the market and is forecasted to outpace the total

online gaming market in terms of growth, with an annual increase of about 20%.

Supplier & Buyer Power

Supplier power is considered to be low to medium in the console industry.

Because Nintendo, Sony and Microsoft generate revenue from hardware and

software sales, both suppliers have integral roles. Companies strive to supply any of

the 3 companies because of the assured profit they will make. For example, AMD,

the main supplier for the semicustom CPU for the Sony’s PlayStation 4 and

Microsoft’s Xbox One, managed to become profitable after over a year of substantial

losses (See Reference 21). The suppliers of the main hardware components supply all

3 competitors and these components are critical to a console’s success. The brand

equity of Nintendo, Sony and Microsoft and the large number of suppliers available

makes it difficult for suppliers to exert considerable influence over their prices, and

as a result suppliers want to keep a close relationship with these companies. On the

other hand, certain conditions exist where suppliers can wield significant bargaining

power. These include shortage of supplies and the availability of a certain input,

which can lead to increased costs.

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 Buyers in the console market do not have many choices since the competitors are

only three. This coupled with the high switching costs of buying another console

reduces their buying power. Other factors limiting consumer’s power are games

which are exclusive to one console, therefore forcing buyers to purchase one

console over the other (See Reference 22). Also purchases are made in small

volumes from a large number of buyers. As a result buyers have limited power in the

market.

Conclusion
With the competition getting more intense, companies must find ways to

differentiate themselves from their competitors. Furthermore development of the

extra features of the consoles must be pursued, as the producers aim to establish

the consoles as the central tool for any kind of home entertainment, not just for

video games playing. Developing a larger library of games can prove crucial to the

success of a console, and creating games directed towards interests of new target

groups like females and older people, can broaden the gaming audience.

Overall the console industry is a fairly complicated one to enter. Entry barriers are

high but so are the profits. Taking into account Porter’s Five Forces analyzed above,

the steady growth predicted in the coming years and the technological

advancements, it is a very attractive business to enter.

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