The History of PlayStation: How Sony Became a Leader in the Gaming World

My journey within HEC PARIS' Executive MBA led me to lean on Sony's strategic decision to enter the gaming industry. This was the early 1990s and not a particular obvious choice. Yet PlayStation became Sony's most lucrative business. I felt it was resonating a lot with the current times during which companies have to make bold strategic decisions, entering in new industries that require high technological capabilities and that may eventually pay off... by a lot (Disney into streaming, Facebook / META into metaverse). The following essay was due for the Business and Corporate Strategy module. I would like to thank professors Laurence Lehmann Ortega, Pierre Dussauge, Bertrand Pointeau, Olivier Sibony for the their outstanding class I truly enjoyed having.

Today, Ken Kutaragi is happy. But Ken is a survivor. 

Internally nicknamed “Crazy Ken”, this Japanese Sony R&D engineer struggled within the corporation to impose his crazy vision: to create Sony’s first video game console at the dawn of the transformation of contents to be more digital, more interactive. Yet, thanks to the support of the then President of Sony Corporation, Norio Ohga, Kutaragi successfully led the release of the first PlayStation in Japan in 1994 and in the U.S. and Europe in 1995.

As of 2021, Sony has sold 458.4 million PlayStation (hardware) units around the world in 27 years. A total of 5.075 billion PlayStation video game copies (software) were sold before the release of the 5th PlayStation model in 2020. 

More than a gaming epiphenomenon, PlayStation is one of these iconic products that set an entire era. The videogame industry went from children toys to a sector that employs over 220,000 people on the sole U.S. soil and generates $209.6 billion per year globally (2020). 

Though, Sony, as one of the current leading player on the console manufacturing, game development, publishing and distribution, was not meant to take such a diversification move in the early 1990s. Too risky, not particularly obvious. As empirical research also points out, diversification has a high chance to fail and little can be offered to shareholders. Then why and how Sony could succeed in such venture? Let’s see how this story went and how Sony ended up counting on PlayStation as one of its most lucrative division.

1980s Greatest Hits… And Pitfalls

After a decade dedicated to internationalization, Sony Corporation engaged into vertical integration in the late 1980s, both upstream and downstream in order to maintain growth and to offset major disappointments in electronic devices release. Taking over control of content production was then in line with the group’s objectives for growth and economic trends, in order to increase sales of the devices that would be required to consume them: through the merger and acquisition of Columbia Pictures in 1989 (now a full division of Sony Pictures) and CBS Music in 1991 (now Sony Music). The group also sealed important alliances in order to cut the high costs of research and development on several products such as the Compact Disc (CD) technology, developed and distributed through a joint venture with competitor Philips. But major let downs such as Betamax (competitor JVC’s VHS was preferred by Hollywood Studios) in the same decade was slowing down the group in its quest for growth. It was as well hit by the economic stagnation of the Japanese economy at the end of what was called the “Japanese economic miracle.” While cameras, televisions, radio players and, of course, the iconic Walkman, helped the company to thrive and create competitive advantages for each segment, the electronic consumer goods manufacturer was also suffering from the life cycle of its products that tended to shorten every year as technological advance was getting faster and competition tougher. In 1990, Sony’s share was valued $26.38. According to the FY1990 Annual Report, Video Equipment accounted for 25.8% sales of the group, Audio equipment 25.1%, Televisions 15.5%, Records 15.8%, Movies 3.2%, and Others (semi-conductors, electronic components) 14.6%.

Endure the Slap, See the Dawn: Strategic Decisions Are Taken By Men and Women

In the early 1990s, the video game industry had nothing to do with the gargantuan figures it has now. The worldwide market leaders, Nintendo and Sega, video game console manufacturers and video games editors and distributors, owned 90% of the market share of an industry that roughly weighted $17.9 billion (worldwide) in 1990 (versus $209 billion in 2020). The cartridge system and its production, process fully owned and controlled by the two firms, limited the number of video games being produced and released. Furthermore, a console manufacturer and video game developer and distributor such as Nintendo required each third-party game developer to give it back 20% of games’ earnings. The video game was still targeting young males and growth tended to slow down, yet the industry remained very attractive but with very little chance to see new entrants.

Sony, which was then a chip supplier for Nintendo consoles’ value chain since 1985, started talks in 1989 with the firm responsible for such hits as “Super Mario Bros.” or “Zelda” to enhance their Super Nintendo console with a CD-Rom system, medium co-owned by Sony with Philips. As the partnership was becoming more important, Ken Kutaragi, then engineer for Sony’s R&D, was ruminating. To him, terms and conditions of Nintendo were lacking of ambition. Nintendo wanted to keep the CD player as an extension for music and do not open this technology to play video or games as it wanted to keep control over it through its cartridge proprietary system. Concerned to cannibalize their cash cow and fears over piracy leaks, Nintendo started secret talks with Philips who could deliver a product more in line with their requests, but was still working with Sony on developing such technology.

On June 1st, 1991, Sony and Nintendo were about to announce their partnership to the world during the CES show in Las Vegas, Nevada. At 9.00 AM, Sony announced the Nintendo-Sony PlayStation to the press during their presentation. An hour later though, as Nintendo CEO was taking the stage, nothing was ever mentioned about any partnership with Sony… Instead, the firm from Kyoto announced a partnership with Philips! It was told that Norio Ohga, Sony’s CEO, was as furious as the Japanese volcano Unzen that erupted few days before.  Embarrassed if not ashamed, Kutaragi would spend the following days hiding in the office’s janitor racks. Yet, to Ohga, it was decided. Sony would eventually have its revenge over Nintendo and develop on its own the PlayStation system. 

How to Divide and Conquer a New Industry

After years of global expansion, vertical integration, Sony was taking a diversification turn. Fully confident about the group’s resources and capabilities to make all stages of a video game console, Ohga appointed Kutaragi as the lead director of such venture to empower him in a polarized workplace. The PlayStation project was a risky one. Yet, it would leverage significant synergies. The PlayStation manufacturing would utilize available resources, technology and hardware of the group, and help it to bring the cost down as it was engaging in economies of scope: PlayStation is the addition of all these technologies. The PlayStation would also become an entertainment system on which consumers would be able to play music and video games in their living room. Projects long kept under wrap also shown that movies on CD-rom were the next step (which would become later the cheapest DVD player in the market: PlayStation 2). In a nutshell, the goal was to increase the willingness to pay as PlayStation was bundling multiple products in one. 

Kutaragi, on his end, was convinced in Sony’s capacity to develop a competitive advantage, as the CD-rom would allow third party games’ developers to access the video game industry through a cheaper licensing system. Sony would get much less royalties than Nintendo and Sega, but would get additional returns over CD support. Besides, the delivery of video games copies would also be much faster; 8 to 10 days were required to produce and distribute CDs while cartridge manufacturing and delivery was taking weeks. Finally, Sony would give full creative control to games developers about content; while games had to be approved by Sega or Nintendo to be released on their video game systems. 

More importantly, Sony would take a significant technological leap and take over the next generation of consoles with the introduction of 3D environments as the CD technology was able to read the support’s content much faster than any cartridge, giving the group a first mover advantage.

This commitment to a new era of video games, offering bigger operating margin, helped the group to count on numerous game developers (Super Nintendo counted 1,757 games, PlayStation had 7,918 titles!) and to secure partnerships with iconic studios previously loyal to Nintendo or Sega, such as Namco, Capcom, Squaresoft (now Square Enix), Konami that would later deliver major hits for the PlayStation, respectively “Tekken”, “Resident Evil”, “Final Fantasy VII”, “Pro Evolution Soccer” and ”Metal Gear Solid”.

The PlayStation was the first console to top the 100 million units sold bar. Later iterations broke other records but with less momentum.

Why Sony’s diversification in the video-game industry worked

Therefore, is PlayStation a new product in a new industry or just the enhancement of a VCR? The success of this diversification for Sony is that while it relies much on the group’s capacity to build synergies as it appointed resources and capabilities to create a new product, it was able to duplicate its technological processes to a new industry. Sony mastered technological innovation and was able to distribute internationally its products. It also replaced a proprietary system by another, much cheaper, yet also very much controled. Basically, Sony had full control on the value/content chain and changed the entire business.

The success of the PlayStation is also about timing. Timing about seizing the right moment, when the industry or the market is shifting to a new age; it was then 2D to 3D and cartridge to CD. It was also an industry that had great perspectives and potential for growth. Nevertheless, Sony’s capacity to see it was vastly unexplored because of aging gamers’ population was… game-changing. The introduction of third-party game developers helped Sony to flood the market with more adult video games and to diversify the profiles of gamers (Nintendo beat Sony at this game in 2007 with the release of Wii).

The success of this diversification relies also on the fact it was an individual’s decision: Sony’s CEO –perhaps biased by the “Nintendo betrayal”– took the decision to proceed to the PlayStation manufacturing and release almost against its board. Having a look at financial reports from 1994 to 1999 shows that the PlayStation is only reported in the “Others” category, much hidden from the rest. We have to wait the year 2000, and the release of the PlayStation 2 to see a new category of product sales: “Gaming”. That same year, Sony’s share hit its record value: $156.75, +494% in ten years! In 2020, revenue generated from Sony’s game and network services amounted to $25.04 billion. Game and Network services accounted for 25% of the sales of the group, more than Electronics Products & Solutions (18.1%)! 

Somehow, history repeats. Proprietary system being torn apart over another is Apple main concern right now but Tencent’s Fortnite success. Netflix spread the world with titles and took the entertainment industry by storm as it was shifting to a new era of streaming. So out of metaverse, chips shortage, augmented reality…. Now what, PlayStation? 

Sources

Mathieu Manent (2015). PlayStation Anthologie Vol. 1, Geeks-Line

Robert M. Grant (2020). Contemporary Strategy Analysis, Tenth Edition, Wiley

Slideshare (2017), “Newzoo Global Games Market Report” available at https://www.slideshare.net/Newzoo/newzoo-global-games-market-report-2017

Samson Amore (2020), “Global Video Game Revenue Expected to Jump 20% This Year to $175 Billion”, The Wrap, available at https://www.thewrap.com/global-video-game-revenue-expected-to-jump-20-this-year-to-175-billion/

BBC (1999), “Dreamcast beats PlayStation record” available at http://news.bbc.co.uk/2/hi/business/534957.stm

Statista (2021), “Games market revenue worldwide from 2015 to 2020, by region (in billion U.S. dollars)”, available at https://www-statista-com.ezproxy.hec.fr/statistics/539572/games-market-revenue-by-region/

Statista (2021), “Market share worldwide operation system” available at https://www-statista-com.ezproxy.hec.fr/statistics/1044925/market-share-of-console-operating-systems-worldwide/

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Sony Corporation (1990), Sony FY1990 Annual Report, available at https://www.sony.com/en/SonyInfo/IR/library/ar/1990-E.pdf

Sony Corporation (1997), Sony FY1997 Annual Report, available at https://www.sony.com/en/SonyInfo/IR/library/ar/ar_sony_1997.pdf

Sony Corporation (2001) Sony FY2001 Annual Report, available at https://www.sony.com/en/SonyInfo/IR/library/ar/ar2001e.pdf

Sony Corporation (2020), FY2020 Consolidated Financial Results, page F-6, available at https://www.sony.com/en/SonyInfo/IR/library/presen/er/pdf/20q4_sony.pdf