Microsoft's $1 Billion Bet on Xbox Network
By JOHN MARKOFF
AN FRANCISCO, May 19 — It was nearly a decade ago that a young Microsoft programmer named J. Allard sounded the alarm and convinced Bill Gates that the Internet was a threat to the dominance of the Microsoft Windows operating system.
On Monday, Microsoft will announce Mr. Allard's next big gamble: an ambitious billion-dollar-plus investment in an online game service to be called Xbox Live.
Microsoft hopes to create what it describes as the equivalent of an online Disneyland, globally accessible over the Internet, where gamers who subscribe can find partners for dozens of different adventure, racing and sports games.
The company is betting the service will save its Xbox video-game system, which began shipping last November but still lags far behind the industry-leading Sony PlayStation 2, which has nearly 30 million units in use worldwide, compared with only 3.5 million for the Xbox. (There are an estimated four million to five million Nintendo GameCube consoles now in use.)
While Sony and Nintendo have online plans, networked game playing is peripheral to their video-game strategies. For Microsoft, it has been integral to the Xbox plan from the beginning — the wedge with which Microsoft hopes to gain entry to the nation's and world's living rooms and become an entertainment powerhouse.
It is a bet as ambitious as it is expensive. When Microsoft opens the electronic doors for its service this summer, the Internet technology in its three data centers in London, Seattle and Tokyo will have more capacity than its own Microsoft.com, which itself is one of the world's largest Web sites. The risk is that Microsoft is entering a quagmire that will soak up vast amounts of investment and lock the company in a bitter, potentially unwinnable battle with Sony and Nintendo, which will each be describing their own online services at this week's game industry convention, the Electronic Entertainment Expo, which starts Wednesday in Los Angeles.
For Xbox Live to become a success the company acknowledges that it will have to attract millions of customers willing to pay $50 or more for each game's software and perhaps a $9.95 monthly subscription, in addition to the $40 to $60 a month for the high-speed Internet connection the service will require.
Those are big if's, because while video games have become a wildly popular form of home entertainment, online game playing — so far mainly employing personal computers, not game consoles — has never appealed to more than a fraction of Internet users, and in almost all cases, only when it is free.
Even more daunting is the fact that there is little evidence that video games have expanded much beyond their core audience of adolescent and college-age males.
"Gaming is a very age-specific and demographic-specific device and experience," said Mitchell Kertzmann, the chief executive office of Liberate Technologies, an interactive television equipment
supplier based in San Carlos, Calif.
There have already been well-publicized failures in the online gaming business. During the Internet bubble, start-ups like Total Entertainment Network and MPATH rose and fell on the promise of offering Web game portals for paying PC customers. And Sega, the one video-game company that did start an online service, Sega.net, way back in 2000, has dropped that service and no longer even makes game consoles, now focusing instead on software.
"It only works when you get to significantly high numbers of subscribers," said Lawrence Probst, chairman and chief executive officer of Electronic Arts, the largest maker of computer and video-game software. "We've learned that the hard way with EA.com," he said, referring to the company's online computer-game service, whose only profitable component is the medieval-themed Ultima Online, which has about 200,000 subscribers.
Another challenge may arise in household geography. In most homes, the video-game console is located in the living room, where the television set is — nowhere near the high-speed Internet connection in the den. That assumes, of course that the den has a high-speed connection.
Microsoft asserts that as many as half of its Xbox customers already have high-speed, or broadband, Internet connections. But so far only 12 percent of the nation's households have broadband Internet, according to Odyssey, a market research firm in San Francisco, and the number is growing only slowly.
"If this service requires broadband, just put it in the icebox for awhile," said Nick Donatiello, Odyssey's president.
And yet Microsoft's new service does have its defenders, industry executives who think that online gaming can reach a broader audience than stand-alone video games have.
"Microsoft has the resources to make online gaming successful," said Charles Bellfield, the vice president for corporate strategy at Sega, which develops games for the Xbox and will offer versions for Xbox Live. "It may not happen on day one, but by the time gaming reaches the mainstream, it will be doing well."
Mr. Allard, who is now general manager of Microsoft's Xbox division, argues that Microsoft can create a mass audience by the force of a huge effort and by the company's ability to tap into a latent demand that he said he first detected three years ago.
In an interview last week, Mr. Allard recalled the epiphany. While visiting a Seattle video-game arcade with other Xbox designers in 1999 he realized that the longest lines were all formed around the multiplayer games — the basketball, car racing, tank warfare and other competitions in which players compete on individual or clustered machines.
He said he came to believe that it would be the "social" experience offered by the Internet that would drive the next major generation of video games. That is why he committed the company to add the $40 to $50 worth of hardware to each Xbox needed to make every console Internet ready.
Now Microsoft is ready to tap that built-in capability. On Monday, the company plans to announce that it will begin co
nsumer tests of Xbox Live this summer with a one-year subscription and a headset, for $49, that will enable Xbox owners with high-speed Internet connections to compete and converse with one another online. Despite speculation that the company might use its online network connection to link Xbox users to Microsoft's other services, Mr. Allard insists that Xbox Live will stay focused on gaming.
Robert J. Bach, a Microsoft senior vice president in charge of its games division said the company was planning a service that he compared to Disneyland for its safe, wholesome environment — in contrast to the "Coney Island" he said that the open Internet can sometimes become. "Compare Coney Island to Disneyland," he said. "When you're at Disneyland, there's no trash, no violence and you never see security. That's what we have in mind."
Mr. Allard invoked to the same metaphor to criticize his biggest competitor's approach. "I won't deny that I've occasionally referred to Sony's online service as Sony Island," Mr. Allard said.
Sony, which has said that it will begin selling a $40 adaptor for connecting the PlayStation 2 to the Internet either via dial-up modem or high-speed connection in August, makes no apologies for its approach. Although the company will not attempt to match Microsoft's ambitious online theme-park environment, neither will Sony attempt to charge users for playing its video games online — at least not initially.
If the gaming experiences are comparable for players, a free service based on Sony's market-dominating video-game console could prove an insurmountable rival to Microsoft's fee-based "walled garden" approach.
Moreover, unlike Microsoft's command-and-control approach to the Xbox Live network, the Sony service will not force independent game publishers to provide their online PlayStation games through Sony's own network. That difference was highlighted when executives at Electronic Arts said last week that they planned an online alliance with Sony but remained unsure whether to get involved with Microsoft's XBox Live. Electronic Arts said it worried it might risk losing its customers to competing Microsoft games.
Sony executives, meanwhile, questioned whether Xbox Live could ever justify itself financially.
"If I were Microsoft, I would spend my money first on selling units rather than building an online service," said Kazuo Hirai, the president and chief operating officer of Sony Computer Entertainment America.
None of this deters Mr. Allard. Just as 3D graphics propelled growth in the last generation of video games, he said, Microsoft's ability to create a social experience will drive the next generation of gaming. "The pendulum has swung too far in the single-user direction," he said.
A critical component of the social experience planned for Xbox Live will be the audio headset, enabling players to cheer and jeer one another. The technology includes a "voice masking" feature that will conceal the identities and even ages of the contestants — a Disneyland safeguard meant to deter adult exploitation of children online.
Som
e analysts agree with Microsoft that voice capabilities could take video gaming to the next level.
"You're looking at a service that will become a new phone network overnight," said Richard Doherty, president of Envisioneering, a research and consulting firm in Seaford, N.Y. "By Christmas, Microsoft could become the nation's fourth-largest phone company."
