The rise and fall of Xbox

If you own an Xbox, you've probably felt the difference lately. The empty shelves, the exclusives showing up on other platforms first, you know, the feeling that the device used for a lot of your childhood growing up, well, it's changing. You're not the only one feeling this way. In fact, Microsoft sees it too. Xbox sales are down 70% in the last year alone, and it's gone so bad that Microsoft doesn't even report the sales independently anymore. By conservative estimates, reports are that Microsoft has poured over $100 billion into the Xbox project, and here's the unfortunate thing about it: they've made any money on any generation at all. And now they're putting Halo, Forza, and Doom on the PlayStation. What the hell is going on? It's worth asking: was Xbox the greatest boondoggle in the history of American business? Was it actually smart moves by Microsoft? Or was it something else entirely that made the whole thing, well, just be such a cash incinerator? For the first time, let me now unveil Xbox. This video is the rise and fall of Xbox.

Oh, and by the way, thanks to Zapier for sponsoring this video. More on them later.

The year is 1999, and 4 Engineers on the DirectX team decide to work on a skunkworks project, and they start by doing it by tearing apart some Dell laptops. They call it Project Midway, which by the way was the battle in World War II where the tide turned against the Japanese. Kind of a— there's some meaning in that name. But the idea was to build Microsoft's version of a home gaming console. And something that seems crazy in retrospect in today's world was back then when Sony released the PlayStation, it terrified people at Microsoft. Suddenly here was the PlayStation which could play DVDs. It was going would be soon connected to the internet, and it was gonna attack people's homes by entering not through the office the way Microsoft had, but through the living room. The paranoia and fear reached even all the way up to Bill Gates. He approached personally Sony about putting Microsoft Windows on the PlayStation, and Sony smartly said no. Next move, they went and tried to buy Nintendo, and Nintendo laughed Microsoft out of the room. So Microsoft decided they had to go on their own. Nobody was going to come in and save them. The first thing these engineers had to do was convince Bill Gates it was a good idea. At the time, Microsoft's entire worldview was that Windows was the key to everything. The more you put Windows on every single device, the more powerful Microsoft would become and the more money they would make. And so the engineers quietly made a mistake as they started to define the business plan for what would become the Xbox. They didn't put Windows on it. In a famous meeting that would be known as the Valentine's Day Massacre, Bill Gates famously entered the meeting discovered that Windows was not going to be on the planned Xbox and threw a fit. Robbie Bach, who founded this Xbox division, said he was shocked at what happened next. Bill basically took the entire thing personally. How could these engineers and all the executives behind the Xbox try to destroy everything that Bill had built in creating Microsoft over the past 20 years? Steve Ballmer went nuts as well. The reason? The projections from the Xbox team showed that Microsoft would have to lose $5 to $6 billion before they'd ever turn a profit. Despite all of that, somebody in the room asked, well, what about Sony and how do we compete with them? And then the next moment, the project was greenlit and the Xbox was going to come to market. And crazily enough, the Xbox would lose more than an order of magnitude more money than they had originally projected, and it was much worse than anybody had thought. Hold that thought because it'll come back and be important later in this story. The Xbox launched on November 15, 2001, priced at $299. It was a classic loss leader strategy because Microsoft was losing an estimated $100 $1 billion on every single console sold. They were so all in on everything, they spent a half a billion dollars on marketing at the launch alone. The actual secret weapon behind the Xbox and some of the early success was actually going to be a game studio called Bungie that they had bought for an approximate $20 to $40 million, depending upon which reports you read. And this was this game studio that would come along and create one of the most revolutionary games of all time, Halo Evolved. And as a humorous anecdote of the way business worked back then, Steve Jobs had been trying to buy Bungie as well and bring it into Apple. Imagine if Apple had bought out Halo. Be a different world today. But anyway, they lost, Microsoft won, and Apple was so pissed off that Microsoft had to dispatch one of their executives to go on stage, one of the upcoming Apple events, to reassure everybody that Microsoft was gonna continue supporting the Apple platform. Crazy stuff behind the doors in some of these places. Halo would go on to eventually sell 6 million copies and became the killer app and reason you wanted to own an Xbox. Heck, I remember people buying Xboxes amongst my friend group back then when we were in our early 20s. The only reason was they wanted to play Halo. And another funny anecdote I learned reading about all this: when the American team originally designed the Xbox, they made the controller too big, and they only discovered this when they went to Japan and discovered that the people's smaller hands there just didn't work with the giant American-style controllers. Just shows you how much Microsoft was truly out of their element getting into the gaming console business. In November 2004, Halo 2 was announced and released. Did $125 million in sales in the first day, a couple million copies. It was the biggest gaming launch in history. Halo 2! Halo 2! Meanwhile, in 2002, Microsoft had launched Xbox Live, and one of the things they'd done that was really smart was identify the future of online gaming and social around that. In some regards, they were creating Facebook before it existed, just around gaming. And this was smart. Every Xbox came with an Ethernet adapter, you could get online. And with Sony, well, that was an extra add-on. But look, all this sounds great. Here's the problem: the PlayStation during this original period of time sold 164 million units. The Xbox, just about 24 million. And the GM of the Xbox at the time, Robbie Bach, who I talked about before, he saw the sales projections and he said he knew with those few sales, even though it's a lot of them, they were going to be losing billions for the coming years just to stay in the console business. For that first version of the Xbox alone. Estimates are that they lost $5 to $7 billion for one console. And here's the bad news: they never made any money on any console ever since then in the Xbox business. And that all came out in a trial in 2021. But if you've watched my video on Sega, you realize that Sega had no deep cash hoard to be able to survive these kind of losses. Well, it turns out Microsoft did. They own two of the greatest software franchises in history. Windows, and Office. Each by themselves were printing billions of dollars, so they could afford to think of the long term as they thought it. And that long term was they wanted to be in every home, and the way to get in there is they wanted to make sure they owned the living room. In November, the Xbox 360 was launched. Microsoft— well, I'll give it to them, they weren't giving up. And their plan at this point was to launch fast, be better priced than Sony, and build an insurmountable lead. And the good news is they started to sell more consoles. They sold 84 million of the new version of the Xbox. Up from 24 million of the original version. It was the best-selling console in the United States for a record 32 consecutive months. They brought with it Xbox Live Gold, a $50 a year subscription, and reportedly by 2010 they were generating a billion dollars a year in revenue from subscriptions alone. The beauty of it was they had turned consoles from a one-time purchase to an ongoing subscription, and that's gold. In 2008, they reportedly made $426 million for the Xbox division after billions of dollars a year of losses over the past 6 years, the math was finally mathing for the Xbox. Halo 3 launched in September 2007. It was the killer app for the Xbox. They did $300 million in sales within the first week, and over a million people played it online within the first 24 hours. But remember how I told you that Microsoft had wandered into the gaming business not really understanding entirely how it worked? Well, that had caused them to have a ticking time bomb inside of each and every Xbox that had been shipped. And that thing was the red ring of death, and it was basically a mistake in the soldering that was inside of each and every Xbox 360. It would basically cause the entire thing under heat and repeated stress to brick, and you wouldn't be able to use it at all. And Peter Moore, the guy who'd masterminded all the marketing to launch the 360 and put it on a good track, basically he went to Steve Ballmer and told him that Microsoft might have to eat a billion or $2 billion in warranty refunds and repairs. On the red ring of death. Ballmer handled things the right way. He said, we got to live up to the brand and live up to what Microsoft's all about. And they did all the warranty repairs, but it was worse than anybody thought it would be. In July of that year, they took a billion dollar charge alone on Xbox warranty repairs. And look, this was something they had to do. You have a situation where you've made a promise to your customers that you're going to stand behind a product that you built and hopefully keep them coming back in the future. And I think if they hadn't have done this and stood by the Xbox defects, it's likely Xbox as a brand, or maybe even Microsoft, would be around today. It's funny how a lot of times businesses, like what we tell our kids, gotta own your mistakes and own your errors. In this case, well, Microsoft did the right thing.

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But the red ring of death issue would turn out to be one that wasn't even the biggest mistake to come on Microsoft's part. First came the revolutionary Kinect. It was launched in 2010 by Microsoft, and it was such a hit that 8 million of the units were sold within a few weeks. The crazy thing was Microsoft got drunk on this and decided that they were going to therefore force Kinect on everybody who you bought the platform whether you wanted it or not. May 21, 2013, continuing on with this theme of hubris of the time, Don Mattrick, who was the head of the brand at the time, came out and did one of the most disastrous launches in the history of Microsoft. And while the Kinect was bundled into the Xbox and pushing prices up to $499, the PS4 from Sony was $399. And the cool thing, it didn't come with a lot of crap that they had shoved into the Xbox. No online integration required, no checking in with Microsoft every 24 hours to see if your games would work, no crazy TV integration type stuff. Like, the Sony platform was just sticking to what it was great at: helping people play cool games. Microsoft had decided they wanted the world to be one where everybody's entertainment hub was this device, the Xbox, sitting in their living room. But it turned out everybody already had one, and it was in their pocket. It was a mobile phone. Despite customer feedback, the Microsoft teams famously continued with this level of hubris and overconfidence that they were the controllers of the universe. Even with the marketing manager of the brand of Xbox going online with a tweet, #dealwithit, on Twitter. Yeah, great, great way to take care of your customers, guys. And Mattrick, when he was questioned about what for people who don't have reliable internet, what can they do, well, turns out they shouldn't use the One. He said they should go back to the 360. That's for the poors. Great, really great job, guys. Sony, I'll give it to their credit, they saw this happening And they went the exact opposite direction on all these things. PlayStation 4 will be available at $399.

PlayStation 4 disc-based games don't need to be connected online to play.

PS4 won't require you to check in online periodically. Guess what? Customers knew what they wanted. Sony was listening to them. Sony at the time famously did a low-budget video of two executives handing each other a DVD. In other words, moving a game from one console to another. That one clip did more damage than any $50 million highly produced clip would do, or marketing budget would do. Microsoft finally caved in after seeing all the backlash. They released a post called "Your Feedback Matters," rolling back a lot of those changes. Mattrick himself would leave July 1st, 2013, and head over to embryonic gaming company Zynga. And later on, he'd be pushed out of there too. And at this moment, Xbox went from having won for 32 consecutive months to now losing to the PlayStation. 2 to 1. And this in 2015 was when Microsoft stopped reporting sales numbers for the Xbox. And here's the deal, when a big company like that stops reporting numbers, you know the numbers ain't good. And that's the answer. By this time, Steve Ballmer had left as Microsoft CEO and we had a new man in charge, Satya Nadella. And he brought in a new CEO for Xbox, and it turned out he needed somebody who would be the opposite of Mattrick's basically arrogance and somebody who was an actual gamer. He formally rolled back all those changes, lowered the price of the Xbox, removed the Kinect, gave up on this forced vision of dominating every household through the living room. And I'll give it to Phil Spencer, he got the message and he saw the future also, which was the future was ongoing services. In other words, the Netflix of the future. And this is where Microsoft basically released Game Pass, a subscription product that would be Netflix for video games. You get first-party games available on day one as a subscriber. The industry, they thought he was crazy. The reason they thought he was crazy was because of how the console business works. I detailed some of this in our Sega video, but basically console makers like Sony or Microsoft or Sega or even Nintendo, they lose money on each console sale. In fact, Microsoft had been losing $100 per console sold. The reason they could make the money and lose it— they could make it back— was basically they would license people to make games for their platform, taking 30% royalty on each game sold. For the Xbox or whatever console you're selling. And this creates a huge winner-take-all dynamic in the console business where you see number one making buckets of money and extending their lead because more games means more consoles sold, which means more revenue. And number two and three, well, they get put in a downward spiral that sometimes you just can't get out of. It made worse if you look at a developer and they have an option. Do I want to make games for the PlayStation, which is outselling the Xbox 2 to 1, or do I want to make them for both? Well, a lot of times those folks would look up and make the sound business decision, which was cut out the Xbox. And when you have fewer games, you aren't going to sell as many consoles. Microsoft was learning that the hard way. Spencer realized that his only strategy at that point was if he's not going to outsell the Sony business, well, might as well change the way the game is played and make it a subscription one and hopefully start getting that margin from day one and hopefully have customers around for a long time. Spencer was trying to push Microsoft from trying to win the console wars, which they weren't, to trying to win reaching every single gamer no matter where they were coming from, whether it be on console, mobile, or PC. And it sort of worked. They went from 10 million subscribers in 2019 to 34 million subscribers by 2024. And each of those paying a monthly fee to Microsoft. And Netflix had already laid out the strategy of building this kind of unique content and monetize it via subscription, uh, business model. And the one way to do that was to spend a lot of money on content. And so that's when Microsoft started spending a ton of money buying up studios which had brands that they wanted to have. And the first one of those that was big was September 2020, and they bought Bethesda. ZeniMax, bringing with them a ton of titles that gamers wanted like Elder Scrolls and Doom and stuff like that. But by heading down this path, Spencer had put Microsoft in a very kind of fork in the road. Satya Nadella, CEO of Microsoft, was told very quickly in 2021, you either have to go all in buying more content that we can turn around and sell subscriptions in order to win this game, or you're gonna have to shut down Xbox entirely. And that's when we come to January 2022, and Microsoft announced the acquisition of Activision Blizzard, bringing titles like World of Warcraft, StarCraft, which I'm a personal fan, all that kind of stuff coming over and bringing 400 million users and customers with it. The FTC, which, you know, I've talked about on this channel, has been asleep through the early 2000s, allowing things like airline and defense contractor consolidation that really hurt consumers. Well, they sued to try to block this one. The bad news was for the FTC, the judge denied their request and allowed it to proceed in 2023. And what happened next was a strange case of strategy being right, but execution being kind of crazy. Suddenly they had all this amazing talent and studios, and Microsoft, they start forgetting they were in the game business, it seems. So in 2024, just months after spending nearly $69 billion to acquire Activision Blizzard, Microsoft started closing the smaller studios. Folks like Tango Gameworks, Arkane Austin, these guys who had put together these games that had been maybe not huge commercial successes, but had been ones that had created tons of buzz for the brand and had a lot of kind of niche and passionate fans. They started canceling small niche games— Perfect Dark, Everwild— while in the background firing tons of employees. Thousands of people laid off from the Microsoft gaming division throughout 2024. Then in 2025, Microsoft itself did a 9,000-employee reduction in force, many of those people from the gaming division. Meanwhile, the console sales themselves were collapsing. The Xbox Series XS just sold an estimated 30 to 35 million consoles. Meanwhile, the latest version of the PlayStation did over 80 million. And in 2025, the Xbox was outsold by the aging Nintendo Switch. The downside of doing these videos in places I'm not that familiar with is when I'm walking around paying attention to what I'm talking about, I often don't pay attention to the trail and I'm, I'm freaking lost. Well, at least I'm on top of a hill though. All right, we'll figure it out. Anyway, back to the story. Then Microsoft started to do the unthinkable, which was, you know, where once their own IP games were used to help them sell consoles, suddenly they started putting all their titles onto PlayStation. On day one. Indiana Jones, Forza, all that kind of stuff. The Sony was getting it just as fast, if not faster, than the Xbox was. You started to see things like Forza 5 being huge successes on the PlayStation, and it was working. They did $300 million for the sales of that game alone. And one study said that nearly two-thirds of the gaming dollars that were spent for titles on the PlayStation, they were coming from IP that Microsoft owned. Xbox as a division wasn't just like giving up on the console business, they were actively helping the PlayStation kill their hardware business. Behind all of this, Microsoft CFO is demanding 30% profit margins from the gaming division, mostly because Microsoft has put over $100 billion into gaming between all the acquisitions and building out the hardware consoles. And Game Pass, the center of the entire strategy to turn the thing into an IP-based, basically subscription model, well, it's not growing as quickly as they'd hoped, and prices keep going But here's the crazy fact of what all that money bought them is Microsoft is now the largest publisher of games globally. They own Minecraft, Call of Duty, Forza, Doom, World of Warcraft, StarCraft, the whole thing. I know I keep mentioning StarCraft. It's the only one of these games I actually played. And while they're planning on releasing a new console in 2027, gaming publishing revenue has hit $23.5 billion for Microsoft. A lot of money. The irony is Microsoft, after all of this, may be losing the hardware war but gaining the war around the software publishing itself, which arguably is a better business. Heck, your marginal cost is zero. You just cut and paste the new CD or allow a new download. Basically every additional sale is profit, whereas in a console, well, that's a lot harder.

The reason the CFO is freaking out is because of two numbers. One is that Game Pass subscribers are well short of the $100 million target that they had hoped to get as Microsoft. They're in the high $30s. The second one is recent launches of new titles where they go straight to the PlayStation as well as the Xbox. Well, if you have Game Pass, you're leaving a lot of revenue on the table. In the case of the most recent Call of Duty release, estimates internally at Microsoft were that they left $300 million on the table because people were getting it for free via Game Pass. Rather than buying it like they were on the PlayStation. So Game Pass, the service that was designed to save the entire Xbox division, is, well, going out and actively killing it. And ironically, some video game industry insiders equate what Microsoft is doing with Xbox to what Sega did with all of their consoles. The big difference is Microsoft has a bunch of highly profitable businesses that they can rely upon and take the cash from. Sega didn't. Sega died And it's just a question mark as to how long Microsoft can keep doing what they're doing.

And ironically, if you look where Microsoft has finally ended up 25 years later, they're running the same play in gaming that they actually ran in enterprise software and home software. The people that make PCs and that sort of thing and all the hardware that the software runs on, they don't make that much money. Microsoft, well, they print it with Office, Windows, Azure, and all the other services that they host and license to customers like you and me and the businesses we buy from. The only problem is games, they aren't like enterprise software. If your business that you shop from buys like Microsoft Office, it doesn't need to get better or different each individual year. It doesn't matter who gets tired of it. Or something like Forza or Doom or Elder Scrolls— well, when somebody's tired of it, you need to have a next trick pony to be able to sell them. And ironically, the whole thing that Microsoft was actually scared of all along, uh, was the entrance into the living room by Sony. And it turns out both of them were wrong. The cell phone went in there and dominated the living room before any gaming console would even think about And heck, if I look at my own house, like, we watch TV on Apple TV, we don't have a gaming console, and we sure as heck are mostly watching TV with our phones and laptops in our hands. It was all just a big nothing burger from the beginning. And ironically, Microsoft invested $100 billion on a fear that was just, well, totally unfounded. The lesson from all this, I think, is a pretty fascinating one, which is not all businesses are created equal. And if you go back to that time in the 2010s when the leadership of the Xbox was being very arrogant and pooping on customers. They did that because they came from a culture inside of Microsoft that had such a dominant monopoly because of Windows and Office that they could afford to be jerks, kept raising prices, give customers the middle finger. Who cares? But in reality, gaming is not the same business as enterprise software. As you start to look at what you're going to be doing in your career and what you're going to be working on, like being in a good business is the best decision you can make. And I have friends that are in hard businesses and their lives are miserable. And I have friends that are in easy businesses where it's easy to build a defensible position where you can basically sleep well at night knowing revenue is coming in each and every day. Man, those guys seem to have a much better life. In this case, Microsoft learned the lesson. Not all businesses are created equal. All right. On a positive note, I think if I go that way, I will get unlost. People have asked for more gaming content. I'm obviously not a gamer, but I did as much study as I felt right. Let me know what you think in the comments below. And if you enjoyed this video, let me know that too, because it helps me be encouraged to make more of them and wear my winter cowboy hat. All right, catch you later. This is like a forest. There's no trail here. I'm so screwed. Oh, I'm back on the trail! In your face, nature! Haha!