The biggest changes have come from Google and Amazon, which have both pushed prices well below what Apple and Samsung are selling at. “It’s one of those markets where you have to identify the motivation of the provider: where are they making their money?” Erensen says. “In the case of Amazon, it’s making its money out of the lifetime of the customer. It’s trying to capture them and lock them into that ecosystem. Similarly, Google is offering as affordable a device as it can, so it can keep users within its ecosystem, and provide a platform for its key businesses, which are internet search and advertising.”
Lam agrees, saying that Amazon and Google are playing a longer game. “They’re interested in making money from the lifetime value of the subscriber or customer,” says iSuppli’s Lam. “Amazon has calculated that each Kindle owner will be worth so much additional value through shopping or content – so that’s its business model.”
As far as margins are concerned, Amazon isn’t even the most extreme case: game consoles are sold at a loss, in the hope that customers will shell out enough on games to make up for it. “The new PS4 and Xbox One are still basically wrapping money around each box, since it takes more for them to build than to sell,” says Lam. “That business model goes into the red because the console manufacturers know they can recoup the costs through game purchases.”
“It’s a very different approach. Now it isn’t really held to the same profitability expectations as Wall Street, because all it has to do is not lose money,” says Lam. It’s what will change the market, Erensen says, as consumers realise that they will be getting more for their money if they buy from companies where making a profit on the hardware isn’t the primary motivation. “You get the most interesting kind of disruptions when different business models come into play; all of a sudden, companies aren’t playing by the same rules,” he says. “Some of these companies are looking to do different things, and they’re not necessarily making all their money upfront on the hardware.”
The Tiger Threat
While Amazon, Google and Samsung have their eyes on long-term software sales, not all low-cost products are supported by an app store. Consider the ASUS Fonepad. Not only does ASUS use Android, and therefore make no money on content sales, but the “phablet” also boasts mobile connectivity, meaning it faces higher component costs and associated regulatory issues. The Fonepad 8GB retails for $A319 via staticICE, more than Google’s 8GB Nexus 7 at $A229, and more than the 8GB Amazon Kindle Fire HDX 7in, priced at $A219.
Generally though, ASUS is likely taking a hit on margins in order to grow its brand as the priority. “Some companies need to price aggressively because they want market share,” says Gartner analyst Jon Erensen. “They want to establish a position, particularly if they’re a late-comer and their brand doesn’t hold the same value as the market-leaders. You’re forced to take lower margins, and then hopefully as you build a reputation, you can start to make more money.”
This pattern is seen in the influx of Chinese manufacturers churning out cheap devices – and cheap doesn’t necessarily mean poor quality. Erensen says he purchased a phone during his last trip to Asia: “It was $250, and has a specification equivalent to something twice as much from a tier-one vendor.”
Margins will be tight, and such firms also won’t bother to invest as much on marketing, hoping the low price will be enough to draw punters. They also save money on R&D and design, helped by chip makers who develop prototypes for them to work from.
“One of the interesting trends we’re seeing is that a lot of the semiconductor vendors are developing turnkey solutions – basically building phones,” Erensen says. “Then they give those reference designs to customers so they can get to market quickly. It’s allowing more people to jump into the market who were previously hindered by the engineering resources needed. It used to be big companies with lots of R&D and engineers. You still need them, but the barrier to entry isn’t as high, so you’re seeing this flood of new companies come in.
“It’s a challenge, because they’re [offering] similar specs to tier-one, high-end phones, but they’re pricing them 30% to 50% less than competitors,” he says. “How do you position your products against something like that?”
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