Smartphones Key as Phone Vendors Regroup

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The fourth quarter wasn't a good one for the mobile phone manufacturers, and now they are looking to smartphones to save the day.

The Europeans fared the worst: Nokia sold 113.1 million phones during the fourth quarter -- 15 percent less than it sold a year earlier -- and Sony Ericsson sold 24.2 million units, 21 percent less than during the same period in 2007.

The Asians did a bit better: Samsung Electronics increased sales compared both to a year earlier and to the third quarter, and LG Electronics managed to do the same. In the end they sold 52.8 million and 25.7 million phones, respectively. This means that LG passed Sony Ericsson to become the third largest phone vendor in the world.

But the unit growth came at a cost. "As we suspected Samsung and LG were going to try their hardest to try to hit their sales targets, and they have done all they can to do that," said Geoff Blaber, analyst at CCS Insight.

Particularly Samsung, but also LG, were very aggressive on pricing during the fourth quarter, with significant price declines on a number of core products, according to Blaber.

"Now the result of that is, of course, that they have secured some very healthy year-on-year growth numbers in volume terms, but if you look at the margins the consequences are pretty clear. Both Samsung and LG have slipped down to sub-three percent margins," Blaber said.

Motorola will announce its fourth-quarter results on Feb. 3, but it has already provided preliminary results, saying it sold about 19 million devices

When sales from the companies are added together, it appears the mobile phone market dropped more than expected, according to Blaber.

"Our initial forecast was about minus 9 percent for Q4 year-on-year, and now we are looking at nearer minus 12 percent," he said.

That vendors now are looking to smartphones doesn't come as a surprise.

"Smartphones are going to be a real growth segment in a declining market, so that's where the profitability lies," Blaber said.

The underlying driver is demand by consumers, who have started asking for smartphones, according to Carolina Milanesi, research director at Gartner.

"We've been saying for a while that operators want smartphones, and now consumers -- although they might not know what they're actually talking about -- have started to talk about them as well. It has become a buzz word," Milanesi said.

Nokia, for example, said it will expand the definition of smartphones during 2009 by combining its Ovi services offering with new hardware, at attractive price points.

To some extent this might not seem like a massive departure from what it's already doing -- driving down the cost of smartphones, according to Blaber.

"So what Nokia is looking to do is accelerate that, and that certainly makes a lot of sense," Blaber said.

But Nokia still has an issue at the very high end of its portfolio, because the Nseries needs a fundamental makeover, according to Blaber.

A key part of the upcoming smartphone push will be phones based on the Android operating system.

"Everyone in the top five, with the exception of Nokia, is pushing Android very hard. So it's a big, big year for Android, undoubtedly," Blaber said.

At the same time, Blaber is concerned about how sustainable, for example, Sony Ericsson's platform strategy is. The company is seeking to reduce costs, which doesn't gel with the reality that supporting Android, Windows Mobile and Symbian Foundation is a very expensive and resource consuming, according to Blaber.

LG and Samsung have the same problem but to a lesser extent, since they have deeper pockets.

But siding with one or two platforms, at this point, will be very difficult. "The software platform market is still very uncertain, so if it can be avoided people don't want to make hard decisions," said Blaber.

Motorola has already decided against Symbian, continuing to work with Android and Windows, but it had to make a decision because research and development funds at the company are limited, according to Blaber.

"Samsung has effectively said it doesn't want to put all its eggs in one basket, and it'll make a decision when it has to, and I think it's too early to do that at the moment," Blaber said.

An important part of upcoming smartphones will be usability and the application stores that come with them, and the iPhone showed what can be achieved with that combination, according to Milanesi.

Users will start looking at the platform as a whole, not just the hardware, but the extent to which there are applications allow for personalization of phones, Milanesi said.

Last year, touch displays became a sought-after feature, according to Milanesi. But reality is that all touch phones aren't going to be great, she said.

"We have some examples on the market where touch doesn't add anything more to the keypad. You just press the screen instead of the keys, and that's not really what the iPhone is doing," said Milanesi.

This year, that won't be enough to convince consumers to buy a new phone. Now that everybody has touch, consumers will start asking whether the feature actually helps improve their phone experience, according to Milanesi.

Apple, with the successful iPhone, will continue to play an important role in the smartphone segment.

During the last three months of 2008, iPhone sales dropped to 4.4 million units, compared to 6.9 million in the previous quarter. This can be explained by a combination of a large inventory in the channel left over from the third quarter, and the economy.

"I talked to people in the U.S. who got an iPhone for Christmas, but didn't accept it. Although it was nice of the friend or the relative to pay for the phone, there was also a two-year contract they needed to pay for, and right now they just felt they couldn't do that," Milanesi said.

That has convinced Milanesi something has to be done about the long and expensive contacts that come with devices like the iPhone. But that would also mean the phone would become more expensive at the time of the initial purchase. "It's all a bit of a vicious circle," she said.

Everybody is also waiting for the next iPhone product launch.

"If Apple can produce something and move it down the price curve then that's going to be best for it in the long term, and I am convinced it'll do it. I am sure we'll see something announced before the end of spring," Blaber said.

Apple definitely needs to widen its portfolio, because it can't keep the current momentum with just one device, according to Milanesi, but she isn't convinced a cheaper model is in the cards.

"If you listened to their conference call it said it is not in the business of becoming number one, and is not going to go down in price. So what Apple might do is come out with other form factors," she said.

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