Video Game Sales Plunge: Are Prices or Products to Blame?

Consumers' pocketbooks: 10, Video game industry: 0.

That's the score the industry is facing these days as year-over-year video game sales fell 26% to $766.2 million in April, according to a recent report by market research firm NPD Group. And video-game-console and portable-console makers fared even worse, with April sales dropping a whopping 37% to $249.3 million. Overall, that's not a good sign for the $19.7 billion industry that's already hurting from a lengthy downturn in 2009.

Product cycles might be causing this latest downturn in sales, according to NPD analyst Anita Frazier. She notes that consumers might be delaying purchases of new portable game systems because they're waiting for Nintendo's (NTDOY) shiny new handheld 3D gaming device, the 3DS, to hit the markets later this year.

Good News, Bad News

Case and point: In late March, Nintendo unveiled its 3DS plans in a move to get third-party developers to create games for its device before its launch later this year. But in the weeks following that announcement, Nintendo's DSi XL device launch in North America received a tepid response as folks eyed the upcoming 3D version of the DS. According to NPD, sales of Nintendo's DS devices dropped by more than half from a year ago, with 440,800 units sold in April. On top of that, NPD noted that Nintendo's DS and Sony's PSP, combined, accounted for a whopping 61% of the industry's year-over-year video-game-sales decline in April.

Ouch.

But while announcements of new pending products can put a crimp in existing product sales, it can often lift a company's stock, says Colin Sebastian, an analyst with Lazard Capital Markets. Stocks are buoyed by the notion of the higher prices that can come with new products as older products age and are no longer able to fetch top dollar.

Shares of Nintendo, for example, rose 4.6% to $40.15 on the day of its 3DS announcement on March 23. Unfortunately, the company has since seen shares fall steeply as it reported its first drop in profits in six years earlier this month. Nintendo closed at $35.80 per share Friday.

Consoles Need Facelifts?

Game consoles typically get a revamp every five years, and the last round of revamps happened roughly five years ago, says Michael Pachter, a Wedbush Securities analyst. However, the next several years look rather bleak, with no major refreshes in sight, he notes. Microsoft's (MSFT) highly anticipated Project Natal, for example, is an add-on to its Xbox 360, but isn't an overhaul of the console itself.

And yet despite the maturity of the hardware, prices have yet to come down, notes Pachter. And until that happens, a major catalyst for sales will sit on the back burner. April's performance could definitely have used the help.

"Everyone is baffled that prices haven't come down," Pachter says. "There's a ton of middle class Americans waiting for the price to drop. When the PS2 launched in 2000, it sold for $300 and you still pay $300 today [for a PlayStation]. I think people are waiting until the consoles sell for $200."

Sony's (SNE) PlayStation had its last major revision in 2006, when it introduced the PlayStation 3, or PS3, which sells for roughly $300.

Price Cuts Could Boost Market

Hardware makers operate on razor-thin profit margins, sometimes losing money on the console or portable-gaming device, in order to develop a large customer base that will buy their higher-margin games, Sebastian notes. He predicts Sony's PS3 will likely cut its prices later this year or early next year, and Nintendo's Wii might follow a similar schedule.

Investors apparently liked Sony's last price cut on its aging PS2. When the company announced plans last year to drop the price to $99, its stock rose 8.2% to $22.33 a share in one day. Software publishers like to see price drops on hardware devices, viewing it as a chance to drive revenues higher as bargain shoppers swoop in to snap up the devices and -- with them -- the accompanying games, according to Sebastian.

"When it comes to product cycles, it's a natural place to see price declines. Once you sell the hardware to all the hardcore players, you usually have to cut prices," Sebastian says. "But in this case, console prices stayed higher than in previous cycles. So, just as the market needed to attract consumers, prices were still high."

Maybe an early price cut is in order for May...