iPhone Power: Why Apple Wins the Smartphone War

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Where's the money?

But is there any money to be made creating hardware for a deeply competitive market?

Look to Nokia's disappointing financials. look at Sony Ericcsson, RIM. Palm couldn't survive alone and sold itself into HP.

This morning we learn that LG Electronics has posted record mobile phone segment losses in its second successive quarter of making losses. It lost $270 million in Q3, double the previous loss. Sales in the US and Europe fell.

The LG Optimus One.
In response LG recently introduced the Android-powered Optimus One smartphone. The company also plans to offer Windows Phone 7 devices and a 'premium' smartphone's set to ship next year.

This characterizes the situation: Handset manufacturers are scrambling to produce highly-featured devices. But this is posing another problem -- component supply.

Apple's annual report, released last night, tells us that company management anticipate component price hikes.

"The Company expects its gross margin percentage to decrease in future periods compared to levels achieved during 2010 and anticipates gross margin levels of about 36% in the first quarter of 2011. This expected decline is largely due to a higher mix of new and innovative products that have higher cost structures and deliver greater value to customers, and expected and potential future component cost and other cost increases," the report said.

With numerous firms chasing finite supply, component prices can only rise. Supply and demand indicates that when lots of people want the same thing and there's insufficient supply, prices rise.

Strategy Analytics will later today publish its Q3 2010 Global Handset Vendor Market Share report. This will doubtless show rapid increases in Android market share, but will also show that component constraints have begun to bite.

In a statement provided to me, Strategy Analytics' Director, Wireless Device Strategies (WDS), Neil Mawston, takes this position:

"We think there is still plenty of profit in mobile hardware, you just have to dig harder for it nowadays. If you hit a seam of gold, like Apple in premium smartphones, then profits boom. If you miss a seam of gold, like LG in premium smartphones, then profits quickly fade," he said.

"Some software and services are semi-commoditizing, because Google is trying to push their prices toward zero. For example, the OS is mostly free, search is free, maps are free, amateur video is free, and so on. Google wants to draw in eyeballs with low-cost software and services, and then reap profits with targeted adverts.

"Apple wants to lock in users with proprietary software and services, and then reap profits with high-value hardware and high-value adverts," he added, contrasting the two business models of the former allies.

Intense competition; component cost price hikes; and rapid technology advancement makes this an incredibly challenging market.

Components -- feel the squeeze

But with a growing slice of the smartphone business, Apple is in a much stronger position than most, and it has a business model on which it can sustain itself.

There's another advantage: Apple makes just one basic handset. This is an advantage because it means the company can file huge component orders, sometimes months in advance.

While Android's share may match or exceed it as a mass, manufacturers depending on the OS are actually signing a warrant toward future consolidation.

That's because they cannot match the block purchase savings of Apple's iPhone, and don't get the same slice of after-market revenue Apple enjoys. Google gets that.

Component-based market pressures emerged before with the iPod (currently owning 70 percent of the MP3 player market). Competing firms produced some good-looking devices, but could never quite match the iPod range on features, mind-share or profit margin.

(I say profit margin, rather than price. It doesn't matter if you sell something cheaper than others if you can't make a profit on the sale. That's not business. That's charity).

The smartphone wars are far from over. Expect further casualties. And look forward to iPhone 5, and the looming Verizon iPhone, too. (And take a look at this report for a sense of how complex things will become when Verizon offers the phone).

This story, "iPhone Power: Why Apple Wins the Smartphone War" was originally published by Computerworld.

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