Downsizing is the way to go. Companies like EA, Take2, Atari, Midway, etc show how difficult it is to make money on selling software and Sony has more 1st party developers than MS and are making games for the console with the smallest install base. They need to eliminate the risky titles and stick to the profitable games like GT, LBP, Resistance, GOW, Uncharted, etc.
Leaving the hardware business ala Sega would be a big mistake since they are close to being profitable and if they stick it out they could turn things around. They might have to settle with 3rd place this gen and just focus on being profitable.
With regards to next gen they should definitely go for value as opposed to having the most powerful console on the market. Maybe having a smaller upgrade using a faster Cell processor, GPU, and more ram. Basically make the transition from PS3 -> PS4 as painless for the developers and consumers. Backwards compatibility is a key as they can convert the Playstation loyal to the next gen console.
Just my .02.
