Emotional overload for Sony?

Industry analysts question whether the Emotion Engine -- the chip that powers Sony Corp.'s next gaming device unofficially dubbed the Playstation 2 -- will cost too much or be too hard to mass produce.

Either situation presents Sony with the potential for huge up-front losses from Playstation 2, which was unveiled March 2 and has wowed geeks and gamers with graphics that compare favorably to the hit movie "Toy Story".

The Emotion Engine is 238 square millimeters, a monster by processor standards. Its companion chip, a graphics synthesizer, is even larger. Together, the two are large enough to "give most semiconductor manufacturers a bad case of heartburn," said Keith Diefendorff, a senior analyst at chip technology researcher MicroDesign Resources Inc.

While the 128-bit chip has only 10 percent more transistors than a Pentium III, it will be 80 percent larger. That means higher costs and, it could mean Sony won't satisfy initial demand for the Playstation 2. (See Why larger chips are more expensive to make.)

Sony downplays such concerns.

"We would not have entered into the business with this design unless we were sure we could make it work," said Phil Harrison, vice president of third-party relations and research & development at Sony Computer Entertainment America, Inc.

But Diefendorff isn't the only one who sees a manufacturing challenge ahead for Sony.

The Emotion Engine chips "are big-die, highly complex machines; they are not trivial chips," said the ever-careful Paul Otellini, executive vice president of Intel Corp.'s architecture group. Otellini made his comment Tuesday at a press roundtable.

A bargain at any price?
For Sony, the enormous size of the chips means that initial Playstation 2 consoles will be downright uneconomical, according to a research report from MicroDesign Resources.

The firm predicts the Emotion Engine and its graphics synthesizer will cost $130 each to make. That would mean Sony will have to spend more than $300, and probably nearer to $400, just to build a Playstation 2, not including the $1 billion Sony will pay to help its partner, Toshiba Corp., build two new chip factories. The original Playstation retailed for $299.

Sony's Harrison bristled at the numbers. No "arbitrary third-party report" could know Sony's business model or the actual cost to Sony of making the chips, he said.

Will Goliath stumble?
Still, the rival Dreamcast game console from Sega Enterprises Ltd. arrives in the U.S. this fall, a full year before the Playstation 2, and will retail for less than $200. If MicroDesign's cost estimates are even in the ballpark, Sony appears to be facing a tough decision: Sell the Playstation 2 below cost, or set prices at an uncompetitive $600 or $700 per machine.

Analysts say it can't set prices high.

"Sony has to get an installed base; it has to do that to compete with Sega," said Gary Gabelhouse, president of Fairfield Research Inc., a video-game market researcher in Lincoln, Neb. Gabelhouse's research suggests that $200 is the cut-off point for a mass-market gaming console.

While selling video game systems at a loss is nothing new, the higher the hardware costs, "the harder it will be to make a profit," Gabelhouse noted. Still, since Fairfield Research expects total video game software revenue to exceed $36 billion in 2001, Gabelhouse thinks Sony's profits from software licensing could cover the hardware deficit within two years.

Build it and...
But if Sony can't build enough machines, that profit equation could be jeopardized.

Sony's Harrison said he has no doubts. "Our business is to be in the mass market," he said. "All of our efforts are geared to make sure this chip can be made in quantity."

Sony expects to manufacture 10,000 wafers -- good to fill 2 million Playstation 2s -- each month.

That's no easy task. Processor manufacturing is a tricky business. For instance, PC chip maker Advanced Micro Devices Inc. has been unable to satisfy demand for almost a year due to low yields in its manufacturing plants.

But Sony and Toshiba could fall flat in making the chips. If they do, Sony has time in its favor, since consumer electronics companies benefit from a longer product life cycle, than, say, PC makers. And the market for the Playstation 2 is definitely there.

At last week's Electronic Entertainment Expo in Los Angeles, attendees spent up to an hour in line to drive a car on a simulated Playstation 2 system.

"We are on the cusp of an interesting business, and it's completely understandable why some industry commentators are scratching their heads in doubt, but that is not our problem," Harrison said.

Even if he is scratching his head, MicroDesign Research's Diefendorff thinks Sony most likely will overcome the challenge of making the Emotion Engine.

"There is absolutely a chance that Sony is biting off more than it can chew," said Diefendorff. "But I don't see what Sony is trying to do here as completely outside the realm of possibility. Anybody with the level of commitment that Sony has could do it."