Microsoft Should Have Spun Off Xbox. Good Thing It Didn’t (Premium)

Many industry pundits have called on Microsoft to spin off Xbox over the years. And they were right to do so, too: Xbox has siphoned money out of Redmond at an alarming rate of several billion dollars per console generation since its inception.

But then something happened, as we say in the Microsoft community.

That something, of course, is cloud computing. And while its impact on gaming and Xbox is just beginning to be felt, the ramifications of Microsoft’s broad, corporate-wide embrace of cloud computing have impacted the whole company in obvious ways, from its sudden love of open technologies, methodologies, and interoperability with rivals and their platforms, to AI and even accessibility. If you had to just use one word to describe this change, it would be open: Today, Microsoft is open to everyone. And to everything.

This transition predates Satya Nadella’s ascension to the CEO role at the company. But it’s fair to say that Microsoft’s drive to become more open has only accelerated and expanded over his five years in charge. Which is what makes the firm’s continued support of Xbox so interesting: As is the case with HoloLens, Mr. Nadella clearly saw a bright future for a business that had, to date, been mostly a costly distraction. And, again as with HoloLens, that future involves evolving the business to embrace all of the new Microsoft’s core values and strengths.

Like any hardware business, video game consoles are a risky, low-margin affair. And, in Microsoft’s case, they have delivered almost 20 straight years of financial losses: Each Xbox console generation that Microsoft created cost several billion dollars in R&D, and that money will never be recouped. As bad, Microsoft has lost the first two console generations in which it competed from a marketshare (unit sales) perspective, and it is on its way to losing the third.

Most incoming CEOs would have evaluated this history, observed how terribly Xbox One had been received, and would have immediately begun plans to spin off or sell the business. That Nadella didn’t do that is interesting, given the ruthlessness with which he handled other money-losing businesses, like Windows Phone, and other doomed-to-fail products like Surface mini. Someone or some group at Xbox—with Phil Spencer as the key figure, most likely—was able to convince Nadella not only that Xbox had a future, but that it was key to the future of Microsoft itself.

I know. That sounds ludicrous on the face of things. But the history is clear. Nadella handed Xbox to Spencer in 2014 and then elevated his status even further by promoting him to executive vice president and placing him on his Senior Leadership Team alongside his then-boss Terry Myerson. His place on Microsoft’s version of the Star Chamber means that Nadella trusts him to help navigate Microsoft’s future. And that he has Nadella’s ear and support. Thus, so does Xbox.

In A Few Thoughts About xCloud and the Future of Xbox (Premium), I noted that the Xbox business is currently undergoing a transition from its hardware-based console roots to become a pure play services business that is both open and heterogeneous. And that the firm must logically protect and even expand the current (legacy) Xbox business while undergoing this transition.

But it is rather astonishing to look at the gamer-focused gains that Xbox has made since the disastrous Xbox One launch and reevaluate them in the context of this services-based future.

Think about this, and all the pieces that Microsoft has deftly moved into place, from its purchase of the cross-platform hit game Minecraft to Microsoft’s renewed focus on PC gaming. How Microsoft has reignited its in-house game studio efforts to ensure a stable of Xbox-specific game titles. How it has made cross-platform gaming between Xbox consoles and Windows PCs a reality via Xbox Play Anywhere. And how it has edged gamers into a subscription service for games, with Xbox Game Pass, and then started moving it to the PC. How it has moved Xbox Live to mobile, and how it has made the previously-painful move between console generations more seamless thanks to Xbox Backward Compatibility.

All of these efforts, taken in isolation, are positives in their own right. But when you think how they will coalesce to form a solid foundation for a future Xbox platform that is open and broadly cross-platform, not just between console and PC, but to basically any hardware, you can see the makings of a broad strategy for future success.

Consider a few examples of how this can work.

By figuring out how to successfully port games from previous, incompatible console hardware forward, Microsoft has laid the groundwork for a future without incompatibility; all of those games, as well as current Xbox One games, should be forward-compatible with the coming xCloud service, at least at a technical level. (Game makers will always have the right to choose where their games appear.)

And while Xbox Game Pass today is limited mostly to Xbox One console owners, and limited too by whatever revolving selection of games it offers, it’s really just a testing and proving ground for xCloud. Xbox Game Pass today requires local hardware—where games are downloaded to the console or PC and then played—but they are also providing Microsoft with a way to experiment with both game streaming—where games start playing before they are fully downloaded—and with quick start technologies that make things happen as quickly as if the game were on the device.

All of this has been happening right under our noses. The past five years are full of all kinds of interesting change at Microsoft. But the gaming part of it, aside from a few big-bang console releases and a handful of other announcements, hasn’t received a lot of attention outside of the community of Xbox fans.

Of course, we were paying attention to what seemed like the bigger story: Microsoft began its slow but smart transition from a maker of on-premises solutions like Windows, Windows Server, and Office to a maker of cloud-based services via Azure, Office 365/Microsoft 365, and Dynamics. It has developed, refined, and advanced a set of AI-based capabilities that have almost no parallel in the industry and have, in classic Microsoft fashion, simply made them available to its own customers.

And all of that work, ultimately, will benefit the Xbox platform and the gamers who choose Microsoft. As important, it will help Microsoft battle more effectively against what could be a surprisingly long list of competitors that includes both established players like Sony as well as relative newcomers like Amazon and Google, both of whom will also seek to leverage their cloud and AI chops in their own coming game services.

It will be an interesting fight. But as an Xbox fan, I’m most fascinated by the careful and deliberate way that Microsoft has set itself up for success.