The Wii U May be a Flop, but the 3DS is to Blame for Net Loss
January 19 2014 by Nathanial Rumphol-Janc
I know, it sounds crazy to suggest the 3DS itself is part of a larger problem at Nintendo. Heck, even crazier is to suggest that the 3DS is actually a major reason Nintendo is losing money. Didn't they just have the best selling hardware in the United States for 2013? Didn't they just come off a stellar month of 3DS sales? Didn't 2013 mark one of the best lineups Nintendo has ever had for any system in the history of the company? Yes, all of this is true. However, all of that being true doesn't necessarily mean the overall business model with the 3DS is actually profitable.
The Wii U is obviously a flop (I hate that word, but it's true) and while it may have been bleeding money in 2012, the Wii U can't be fairly blamed for the net loss. Sure, without the Wii U Nintendo may be at a break even point, but that's really just a guessing game. We'll probably never see final numbers that will point to which aspect is costing them the most, but my money is on the console that is actually selling, because it's hard to lose money on a console you are barely manufacturing. That doesn't mean the Wii U isn't playing a role, but when I see negative 35 billion yen projections, something tells me the 3DS itself just isn't as profitable as we assume it is.
While we may never know the exact costs to manufacture, package, ship, and possible tax markups along the way, what we do know are words directly out of Iwata's mouth when the 3DS XL launched, which many outlets kept saying was being sold for a profit:
"First of all to the 3DS XL, we will not be selling this at a loss," Iwata told the Independent. "We don't have a huge profit margin on it, we intend to sell it at a profit."
Above, Iwata admitted that the 3DS XL was being sold for profit, but only just. While we can't assume exactly what profit margin that is, based on Nintendo's own financial reports since release, you can figure that we're talking pennies to the dollar. Profitable, but only just. We know the 3DS XL launched in the latter half of 2012 at $199 USD in North America. Naturally, the 3DS XL is more profitable today than it was in 2012, right? Well, from a purely hardware perspective, yes. If you bought hardware for $199, you would make more today than in 2012. Except, you aren't just buying hardware. In fact, many 3DS XL sales today happen through bundles, bundles that sell for around the same $199 price tag. That too eats into the profitability of the console itself
For the original 3DS, we know it became profitable, only just, in the middle of 2012. Pennies to the dollar, and for this we have a much safer assumption, given that Nintendo itself gave conflicting reports at the time:
"The profitability of the Nintendo 3DS hardware is improving, but the hardware has been in negative margin," the company's latest financial report stated, noting that the system was still being sold at a loss.
Which Nintendo later corrected to:
Nintendo has just confirmed it is no longer selling 3DS hardware at a loss. The change comes as of today, 25th July.
In fact, this doesn't even state Nintendo as of July 25th 2012 was actually making money on it, only that it no longer was selling the console at a loss. We can probably assume by the end of 2013, the 3DS itself is likely profitable per sale. It may not be extremely profitable, but profits are what they are.
Above: Originally a DS meme GIF, Fans often use this to symbolize 3DS success. Unfortunately, the 3DS isn't actually printing Nintendo money right now.
Now in making my case for the 3DS bleeding profit margins for Nintendo you have to understand Nintendo's net gain last fiscal year. The net gain was credited to surging 3DS sales in 2012 through the end of the fiscal year, but reality is the net gain was actually do to an extremely favorable exchange rate between the USD and Japanese Yen that happened to hit at just the right time towards the end of the fiscal year. That means that Nintendo's net profit was a bit of fools gold. Not because they didn't actually profit, but because it took a stroke of exchange rate luck to make it possible. When you are relying on exchange rates to favor you in order to make profits you are living in dangerous waters, because Nintendo has no overall control on the global economy and values of various currency compared to each other.
Nintendo also released a statement with the latest financial report stating that they used differed tax payments in the United States the previous two fiscal years, and those differed payments helped show numbers in the green. Those payments are now due, which also has contributed to the big losses this fiscal year:
On the other hand, we expect to post a net loss despite expecting ordinary income mainly because we need to reverse deferred tax assets in relation to the losses carried over from the previous fiscal years mainly in the United States - Satoru Iwata
So, Nintendo's main reason for having a loss at all this year stems from attempting to make up for differed taxes the previous years, previous years in which the 3DS was sold and causing Nintendo to lose money. Of course, this still all comes back to 2013, because they knew these deferred taxes were due when they were predicting initially 100 billion yen profit, and then later 55 billion yen. They simply planned to make a lot more money than they did, and yes, the Wii U was a significant part of that plan. To understand however why both the Wii U and 3DS are not situated the way Nintendo normally wants, even today, we have to understand the whole of Nintendo's history of sales. You can see a big break down right here. The biggest thing to grasp out of this breakdown is that 60% of Nintendo's annual net profits come from hardware sales. This magically hasn't been true since the release of the 3DS, and actually shows the largest margin of overall losses in Nintendo's history.
Despite the wild success of the NES in terms of sales, the actual profit margins weren't a whole lot, and that includes hardware and software sales, but they were still profitable anyways. Despite continuing trends in less and less sales per console until the Wii and DS, Nintendo was actually making more and more money with each console release, including the GameCube. There was a dip at each release as the consoles are sold to close to at cost, but then they steadily increased every year after release. This simply hasn't been the case with the 3DS, and so far not with the Wii U either.
People often point to the 3DS's overall popularity, but it's actually sold significantly less than the DS in the same time period, and is on pace to be absolutely demolished going forward. In the same breath, each of the DS sales in the same time span were infinitely more profitable. In addition, the DS had a stunning 6 to 1 attach ratio for games. As in, for every DS sold, 6 DS games were also sold. Despite all the great games released, the 3DS is average 2.3 games per one 3DS sold. That's a rather significant drop in attach rate. The 3DS, in terms of pure numbers, also underperformed this fiscal year close to the same total numbers as the Wii U, except the 3DS did have a lot of games released in 2013. In fact, 2013 had a 45% increase in game sales compared to 2012. All of this sounds good on paper. Nintendo actually released 3 times as many games in 2013 on the 3DS than it did in 2012.
Knowing all of that, a 45% increase isn't actually a good number after all, because Nintendo released significantly more games, but didn't even double the sales over the previous year which had a third of the games. They likely expected at least a 200% increase in software sales, if not more.
What it All Means
There are several factors to Nintendo's lack of profitability this year. While there is more under the surface in terms of how Iwata's actual business decisions have lead to all of the various factors, this is not the time or place to talk about that. For now, we know the net losses are due to tax deferrals that helped skew numbers in Nintendo's favor the last couple of years combined with underperformance across the board in terms of hardware and software. My points about the 3DS are mostly to point out that despite the success sales wise, it's actually not that profitable to begin with, and is the larger cause of Nintendo not reaching their desired profitability numbers. The hardware is not traditionally profitable compared to Nintendo's past and the software is selling at sigificantly lower rates than Nintendo is accustomed to. Just think, that is on the platform Nintendo is having the most success with.
The Wii U is obviously still a large factor, but given they have barely manufactured many this year, combined with the lack of game releases, it likely plays a much smaller role in why Nintendo is in the red than we really think. It's not helping, but Nintendo's projections clearly showed that it was the 3DS that was supposed to drive them this fiscal year, and it didn't. Whether it can moving forward is unknown, but hardware sales have actually decreased in 2013 compared to 2012 overall, and there are no signs pointing to that trend changing in the near future, let alone any suggestions that the profitability of the hardware is going to significantly increase.
