By Philip Elmer-DeWitt
December 14, 2008

How does Apple plan to sell large quantities of iPods this holiday season in a depressed market already saturated with MP3 players?

By repositioning them as high-end game machines.

That’s the message coming through loud and clear from Cupertino, not only in those ubiquitous TV ads proclaiming the iPod touch “the funnest iPod ever,” but in a series of public pronouncements from executives usually content to let Apple’s products speak for themselves.

Apple marketing guru Greg Joswiak last month called the touch “the future of gameplay” (link). Tech evangelist John Geleynse on Friday proclaimed it a “game console” in the same league as Sony’s and Nintendo’s (link).

Even CEO Steve Jobs entered the fray, telling the Wall Street Journal last month that the iPhone and the iPod touch “may emerge as really viable devices in the mobile games market this holiday season” (link).

It’s an interesting switch in marketing strategy, made just before what should have been — in normal economic times — the biggest selling season for both digital audio players and hand-held game machines. Now it’s a scramble on both fronts, and the players are a little desperate. Even, maybe, Apple.

When it first came out, Apple billed the iPod touch as an iPhone without the phone — a portable media player and a mobile Wi-Fi Internet device without the monthly bill from AT&T.  But it also came without AT&T’s (T) subsidy, which pushed the touch’s average retail price into the mid $300s and kept its quarterly sales — after an initial burst last December — in the 2.0 to 2.3 million range.

With a price cut in September and, equally important, a wave of thousands of games written for the iPhone yet playable on the iPod touch, Apple sensed a new opportunity.

But going up against Nintendo and Sony while maintaining the fat margins to which it has become accustomed required that the company perform a neat trick: it had to flip the usual video console business model on its head.

Nintendo (NTO.F) and Sony (SNE) use the Gillette razor/razor blade strategy: they sell their hardware as cheaply as possible — often at a loss — and make their profit on the games, which typically sell for anywhere from $19.99 to $39.99.

Apple (AAPL) makes nice profits on the hardware and leaves a few crumbs on the table for third party software developers, whose games typically sell for $0.99 to $9.99, if not for $0.00. (See Trouble in the (99-cent) App Store.)

Here’s how the three machines — and their top-selling games — stack up:

Analysts are split on whether the strategy will work. Kaufman Bros.’s Shaw Wu is bullish; he believes Apple will sell 21 million iPods this quarter — almost as many as it sold last year. The normally bullish Gene Munster at Piper Jaffray is bearish; he doesn’t expect Apple to sell more than 18.6 million units, down 16% from 2007. (See iPod holiday sales: Hot or Cold?)

Hand-held gaming is a brutal business and Apple is not the first company to try to break in. The field is littered with the carcasses of portable game systems marketed, priced down and ultimately abandoned. For a gallery of machines past and present see below the fold. (Source: here.)

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