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Humbled Colossus (Sony)

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Makers & Breakers

Humbled Colossus

Tatiana Serafin 12.11.06

It emerged from the smoking ruins of World War II to dominate consumer electronics. Today Sony (nyse: SNY - news - people ) (40, SNE) has shorted out. Things are so bad that last year the Japanese firm took the desperate step of importing a foreigner as chief executive. Sir Howard Stringer, a Welsh-born American citizen, faces an enormous challenge turning Sony around. The company's insular, compartmentalized style of management has let it fall behind in too many vital areas.

The inventor of the Walkman, for instance, has been eclipsed in portable music players by Apple Computer (nasdaq: AAPL - news - people )'s iPod. The high point of Sony's year was the release of The Da Vinci Code, from the company's film division. Despite deservedly lackluster reviews, this blockbuster ($755 million worldwide to date) owes its success to the cultlike popularity of the book.

Elsewhere problems keep coming. Last summer the company suffered an embarrassing setback as overheated computers erupted in flames, with the blame placed squarely on Sony batteries. Resulting recalls of Apple and Dell (nasdaq: DELL - news - people ) batteries amounted to a $250 million charge. For Lenovo computers, Sony is slapped with another one, worth $200 million. Sony, for all three companies, is replacing up to 9.6 million battery packs. Given Sony's reputation for manufacturing excellence, this news is dismaying.

That is only the beginning. Merrill Lynch analyst Hitoshi Kuriyama says there is also a greater-than-expected deterioration in Sony's other business lines.

Another saga of screwups revolves around the delayed PlayStation 3, finally launched in mid-November but probably too late to make a mark on the holiday season. Consumers may also be turned off by the higher retail price of $599 compared with Microsoft (nasdaq: MSFT - news - people )'s Xbox 360 and Nintendo (other-otc: NTDOY.PK - news - people )'s Wii, each costing $200 less. And Sony has announced that the new console can't play previous versions of many of its games. To stay competitive Sony has cut prices on its PS2 hardware, further straining results.

In Sony's fiscal first quarter it outperformed the year-before period, which wasn't hard since that one was unprofitable. In this year's second quarter, ended Sept. 30, the company's battery-related earnings hits sent net income tumbling by 94% to $14 million, while sales advanced a meager 4%. Value Line says PS3 may not turn a profit until 2008.

Critics are concerned that Sony has no hot products in the pipeline to lift the company out of this funk. Sony trades at 37 times trailing earnings compared with the industry's 28. Merrill's Kuriyama maintains a sell recommendation. We say short the stock.

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