Don't look back? Backward compatibility in the video gaming industry

Backward compatibility is a governance strategy that can be adopted by platform owners to build indirect network effects and encourage owners of older compatible software to update to newer hardware models. Previous research has shown backward compatibility has a positive effect on hardware sales. However, there is limited evidence concerning the other associated costs and benefits. In particular, there is a lack of evidence on the effect of backward compatibility on software sales, despite its importance in understanding the full range of possible network and sales displacement effects associated with the strategy. Using weekly software-level sales data from the US video gaming industry, we find that backward-compatible hardware associates with increased sales of software released for the previous hardware generation. However, we find that the introduction of backward compatibility may not increase the sales of new hardware if the feature is not available immediately at launch. Further, we show that the increased sales of software for the old hardware platform may cannibalize software sales for the new platform. Overall, our results suggest that backward compatibility is time-sensitive and involves several important trade-offs. We therefore conclude that the use of backward compatibility needs to be carefully considered by platform owners prior to implementation.