February 6, 2003 6:30 AM PST

Nvidia, Microsoft settle Xbox spat

Graphics chipmaker Nvidia said Thursday that it has settled "all issues" with Microsoft over the pricing of chips used in the Xbox game console.

Ahead of its earnings results next week, Nvidia said that months of arbitration related to its graphics chipset had ended with an agreement that's "a win for both companies." In May, Nvidia disclosed that it was quarreling with Microsoft over chip prices.

Nvidia now can take its partnership "to the next level," CEO Jen-Hsun Huang said in a statement. Robbie Bach, a senior vice president at Microsoft, delivered a similar message.

Microsoft and Nvidia will also collaborate on cutting the costs underlying the Xbox--no small issue, since analysts say the video-game console has so far been a money pit for the software giant.

The companies, however, didn't disclose any financial details of the deal. Nvidia said it will provide more specifics on its fourth-quarter earnings conference call on Feb. 13.

When it first revealed the spat with Microsoft, Nvidia said it could either recognize more revenue or sell some chips at a loss, depending on the arbitration results. Microsoft accounts for 15 percent to 20 percent of Nvidia's sales.

The stakes are high for Nvidia's financial results. According to analysts, the company is expected to report lower Xbox-related sales. Merrill Lynch analyst Joe Osha is projecting that Nvidia's fourth-quarter Xbox-related revenue will be about $40 million on 800,000 units, down from previous estimates of $85 million on 1.7 million units.

Osha added that there may be 1 million to 1.5 million unsold Xbox processors. Nvidia is expected to report fourth-quarter earnings of 6 cents a share on revenue of $428.7 million, according to First Call.

Meanwhile, Microsoft is struggling to make Xbox profitable. In a regulatory filing last week, Microsoft said its home and entertainment unit, which includes Xbox, PC games and the company's TV products, had a fiscal second-quarter operating loss of $348 million on revenue of $1.28 billion. A year ago, that unit reported a loss of $180 million on revenue of $833 million for the December quarter.

A larger concern may be future demand for the Xbox. Suppliers indicate that sales of the game machine may be on the low end of Microsoft's forecasts.

Friedman, Billings, Ramsey analyst Eric Rothdeutsch said in a report that Microsoft's Xbox sales are a disappointment. Microsoft has sold about 8 million Xbox consoles since the system's introduction in November 2001, and about 1 million units will ship through the end of June, he said.

"Given our belief that Microsoft has over-ordered Xbox components and now faces an inventory correction, we expect Nvidia to ship about 5 million chipsets to Microsoft in fiscal year 2004, down from about 8 million, year over year, creating a $150 million hole that needs to be filled," Rothdeutsch said.

 

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