Top debates around the Smartphones market in telecom
The Wireless Equipment industry is hitting hard. An interesting debate about the future of the smartphone industry is currently discussed in most of the mobile telecom operators. The key question here is: Will the smartphones drive the growth in the telecom industry for the next years?
According to ML, there are five interesting hot topics to analyze and answer this question: 1) smartphone growth and forecast for the next years 2) operating system 3) appeal of the industry 4) volume and 5) margins
Smartphone’s business is forecasted to grow at a 37% CAGR through 2013, driving significant share shifts and robust earnings growth for most of the companies in the handset manufacturers universe. There are two industry trends predicated for 2010 that should be considered:
First, the smartphone OS battle is just underway, and while Apple clearly has the lead today, innovation post the iPhone is hardly dead and several winners are expected to emerge. Smartphones bear greater resemblance to video game consoles than to PCs, where multiple platforms succeed simultaneously and share leadership constantly changes based on innovation.
Second, the mid-range smartphone market represents the next big battleground as it is growing faster and gets larger than the ultra high-end market the iPhone plays in today. Currently, 73% of smartphone unit sales run on legacy systems, which we believe leaves significant room for displacement.
In this context, there are 5 hot debates to analyze in detail before answering the question stated at the beginning of this post.
Debate 1 – Smartphone Growth
How significant does the smartphone market become over the next 5 years?
Analysts estimate the smartphone market growth at a whopping 37% CAGR between 2009-2013, at which point they expect smartphones to represent 41% of global handset sales up from 16% today. Operators, currently facing declines or sluggish growth in legacy wireless voice revenue, are strongly incented to drive data revenue by significantly increasing smartphone penetration across their customer bases. Therefore a key enabler for the smartphone boom is 3G availability, which is now pervasive in developed markets and rolling out across developing markets. Additionally, while consumers continue to embrace high-end popular smartphones like Blackberries, iPhones, the Motorola Droid and Palm Pre, price points are expected to come down as newer, midrange models hit the market driving our smartphone model ASP down from $349 today to $253 in 2013.
Debate 2 – Operating System
Does Apple’s iPhone success and its platform approach lock out other OS’s with its first mover advantage with developers, best-in-class brower, and integrated hardware/software? Is this the PC market all over again with only 1-2 dominant platforms?
The market can support multiple OS’s, and is much more like the multi-platform video game console market than the duopolistic PC market. As proven in the past by some operator’s proprietary solutions, the software on a handset is the hardest part to develop, allowing differentiated operating systems to take share from the more established, but legacy platform vendors given the hit-driven nature of the handset business. There’s ample room for Safari, Android, webOS, and potentially one other to gain share in the smartphone OS world. As 73% of smartphones still run on so-called “legacy” platforms (per Gartner and loosely defined as platforms developed before the launch of the iPhone), analysts see ample room for feature-rich next-generation OS’s to chip away at the legacy platforms over the next three years.
Debate 3 – Hit-Driven Industry
Are handsets and smartphones still a “hit-driven” business with frequent share shifts as new models hit store shelves or is the smartphone evolution driving structural changes where established developer eco- systems create barriers to entry for newer players, keeping shares consistent?
Yes, developers are a fickle bunch and are generally attracted to the newest technologies, mitigating the apparent barriers to entry for new platforms. Analysts expect the fledgling smartphone boom to exacerbate the hit-driven nature of the handset business, leading to continued share shifts over the long term. While Nokia has remained on top for the majority of the last decade in pure unit terms, the number 2-7 spots have changed sharply over the years.
Hits like the Motorola’s StarTac, RAZR and more recently Droid, Nokia’s N95, 6300 and 1100 series, Blackberry’s Curve, and of course the iPhone have driven significant share shifts, particularly value share, an effect expected to continue based on differentiated offerings in the market. While Apple governs the innovation landscape today, next-generation technologies are still pending to explode, such as multithreading, cloud computing, flexible screens, etc, not to mention cheaper price points, to provide new opportunities for competitors to re-enter the market.
Debate 4 – Volume
Does volume matter anymore?
Not so much. The volume game likely continues to be dominated by Nokia and the Chinese OEM’s, and it is expected it to be largely irrelevant for other vendors focused on the more lucrative and growth-oriented smartphone market.
Over the last two years, the value bucket in the handset industry has shifted drastically towards smartphones, where nearly every established player has managed to deliver strong double-digit operating margin (save for MOT and PALM, which are undergoing turnarounds).
While there is some level necessary to drive scale, which we estimate to be roughly 2M units per quarter based on historical unit/margin profiles for key smartphone OEM’s, the rapid erosion of Nokia’s market cap and expansion of Apple’s (and Palm, HTC, RIMM) suggests that the volume game is largely irrelevant in creating shareholder value in the evolving smartphone world.
Debate 5 – Margins
Is the handset industry commoditizing and could this phenomena lead to margin erosion among OEM’s?
In the low-end, “feature phone” part of the market, the answer is quickly becoming yes. But at the smartphone level, the level of differentiation, innovation, software/OS complexity and vertically integrated ecosystems that appear to be winning should provide 3-4 years of growth free of the margin pressures of commoditization.
This stands in stark contrast to the PC market, where the disintermediation for software/hardware commoditized and duopolized the industry and drove margins toward the low-mid single digits. Returning again to the console analogy, the importance of the operating system and features governed market share dynamics regardless of legacy positioning and third-party support at the time.
Enjoy the reading. Best, CVA