The Margin Compression Thesis Is No Longer A Thesis As The MSM Notices...
Bloomberg reports High-End Smartphone Boom Ending as Price Drop Hits Apple:
The smartphone has crossed the line from shiny new technology to ubiquitous commodity.
App-laden, Web-surfing phones have surged in popularity over the past half-decade and generated $293.9 billion in sales last year alone. They are now used by more than 1 billion people around the world. With more than half of mobile users in the U.S. and developed countries owning a smartphone, and consumers in emerging markets including China andIndia gravitating toward cheaper models, demand is slowing for high-end devices.
The average price of a smartphone has plunged to $375 from $450 since the beginning of 2012, IDC estimates. That drop has already threatened revenue growth and profit margins at Apple Inc. (AAPL) and Samsung Electronics Co. (005930), and could further squeeze companies like Nokia Oyj (NOK1V) and BlackBerry that were counting on new products to revive sales. Beneficiaries include up-and-comers, such as Huawei Technologies Co. and Lenovo Group Ltd. (992), which specialize in low-priced gear.
“The days of great growth in the high end of the market are gone,” said Michael Morgan, an analyst at ABI Research. “It’s the Chinese companies who know how to survive on tiny margins that are ready for the fight that’s about to ensue.”
The decline in average smartphone prices is akin to what happened in the personal-computer industry in the late 1990s, according to former EMachines Inc. Chief Executive Officer Stephen Dukker. Back then, millions of people who wanted to get online for the first time snapped up cheap new PCs from EMachines and other low-cost providers, dragging down once-stable PC prices to $1,026 in 2002 from $1,898 in 1996, according to IDC.
Apple, Samsung and other companies relying on sales of expensive phones are already feeling the pinch. In June, Samsung lost more than $25 billion in market capitalization, greater than the value of Sony Corp. (6758), as analysts trimmed projections for Samsung’s high-end Galaxy S4 smartphone, which costs $200 when sold as part of a two-year wireless package, or about $630 without a carrier subsidy.
“The market is becoming less about speeds and feeds, and more about price,” said Kevin Restivo, an analyst at IDC in Toronto. “More people don’t need to be overwhelmed by a phone, so long as it’s good enough.”
HTC Corp. (2498), Taiwan’s largest smartphone maker, missed analysts’ sales and profit estimates for its second quarter amid disappointing sales of its HTC One handset, which costs $200 with a package, or $600 to $700 without one. On July 12, carriers cut the price of BlackBerry’s poor-selling Z10 to $50 from $200 -- just six months after it was introduced.
More of those profits will be won in emerging markets, where many consumers have yet to buy their first smartphone. IDC’s Restivo predicts that 66 percent of the 384 million smartphones sold in China next year will cost less than $200, compared with 14 percent of the 153 million phones projected to be sold in the U.S.
China-based suppliers of less-expensive phones, such as Huawei, have been gaining market share, mostly by undercutting HTC, BlackBerry (BBRY) and Nokia on price. Even as its phones priced as low as $100 sell briskly, Huawei’s two-year-old devices unit is profitable, Shao Yang, the company’s vice president of marketing, wrote in an e-mail.
Lenovo has used the same low-price strategy that has made it the world’s largest PC maker to become the fastest-growing smartphone maker in China, said J.D. Howard, vice president of operations and business development for Lenovo’s smartphone, tablet and TV unit.
“It really works in the smartphone business, because some of our rivals have been charging a ridiculous premium,” he said.
Let me be blunt, mobile handset hardware is DEAD! I made that very clear, very early while everyone was still singing the praises of Apple reachinh $1,200 per share (currently $424). Reference Smartphone Hardware Manufacturers Are Dead, Long Live The Google-like Solution Providers from Thursday, 29 November 2012, then reference the share prices of Samsung and Apple...
I followed up with several other articles, all espousing the same concept. The Bloomberg article above is basically a regurgiation of my #MarginCompression thesis, albeit 2 years tardy! Reference Right On Time, My Prediction Of Apple Margin Compression 8 Quarters From My CNBC Warning Landed Right On The Money!
Eventhough Google Has Officially Gone On Record To Confirm Reggie Middleton's "Negative Margin Business Model" Tactics, I still want all to remember that I warned about Samsung's fall earlier this year just as I forecast their rise against Apple (Deconstructing The Most Accurate Apple Analysis Ever Made - Share Price, Market Share, Strategy and All)!
As I State Previously, Apple Is Done, Samsung Sets the Bar, and Hardware Still Looks To Be A Razor Margin Business In a Few Years If Not Less.
Two and a half years ago I declared in my mobile computing wars series that Google would commoditize the mobile computing space. Four months ago, I reiterated that assertion in Smartphone Hardware Manufacturers Are Dead and did so yet again the following month in Computer Hardware Vendors Are Dead, Part Deux! These premonitions cover not only the obvious also rans and marginal companies who's management complained about losing the forest due to tree bark obstruction, but the very darlings of the industry as well. This includes the "used to be" market darling Apple (What Sell Side Wall Street Doesn't Understand About Apple - It's Not The Leader Of The Post PC World!!!) and even the current reigning champion, Samsung. That's right, I said it! Samsung! Hey, I'll say it again just to drive the point home, Samsung! How and why is that, you ask? Well, the same Google Android generated, creative destruction pathogen that brings us such great technology at such a rapid pace at such quickly diminishing prices that has wiped out those companies that I have warned of so extravagantly doesn't just disappear when your current market darling get's knocked off its perch. Let's recap & excerpt the link above so we can clearly isolate the common thread...
So, you ask, "How is it that hardware is dead?" Well....
- The open source OS paradigm calls for rapidly improving hardware specs at ever lower prices. I have pointed to evidence of this above, as these Asian OEMs produce ever better product at ever lower prices - just like the old school PC industry. This drives Google's info-centric business model which is why Google pushes free Android.
- After years of outsourcing manufacturing tech and IP integration to low cost labor Asian countries, those countries have found a way to produce trinkets of their own. Of limited quality and value so you say? Well, remember the iPhone is a Chinese phone, through and through -at least Chinese built. So now you argue, it's American designed, just Chinese made! Please peruse the Oppo Finder 5, a phone that's drastically superior to the iPhone 5 in practically every single way, retailing for $100 less than the cheapest iPhone 5 made. Low cost, low margin products combined with Google's free OS will drive the price of hardware down to near zero, if not negative. Google even has its own hardware arm now (Motorola) to facilitate this downward march in margins and prices. Suppose Google decides to create best of breed Nexus devices and give them away just below cost? Imagine the best smartphone available in the world, unlocked, without a contract, for the cost of a single monthly wireless phone payment??? Google's Nexus program is acting as a training ground to teach Google's Motorola division to build best of breed! Google's biggest and most successful partner - Samsung, is an Asian company. Samsung Electronics of South Korea reported today that its quarterly profit jumped 76%, as its Galaxy smartphones beat rival Apple's iPhone in each quarter of 2012. What many seem to have missed is that EBITDA, Operating and Gross margins all slipped QonQ though. A sign of things to come??? Remember, Google benefits most when the barriers to access information are least. Reference "Cost Shifting Your Way To Prominence Using The Network Effect, Or Google Wins - Apple, RIM & Microsoft Have ALREADY LOST!" as well as my videos below...
Of course, all of this is bullish for Google. The cheaper the handsets, the more people that will have them and the more Google services will be used. As a matter of fact, despite the fact that prices and margins are compressing, Google is doing all it can to compress margins and prices even further, reference Thoughts on Glass, Fashion, Fads, Moto X and Samsung's Phenomenal Yet Brief Trip To The Top
My Google and Apple share price targets remain firm.
Google has almost consistently outgrown the adoption rate of web advertising. What does this mean? Well, it means that although Web advertising is getting bigger and more popular as a slice of the total advertising pie, Google is getting even bigger and more dominant in the space – not less. Google is beating competition back even as the market grows!
Subscribers, click the following links for my updated price targets on Google (click here to subscribe) and read Google Q2 2013 Update: Valuing Possibly The Most Powerful Co. In The World?:
- Google Q1 2013 Valuation Note - Retail
- Google Q1 2013 Valuation Note - Professional & Institutional
The biggest risks to these price points are:
- A market that's being levitated by central bank magicians running short on magic spells...
- Regulatory pressure, which I feel is quite material and inevitable, but will not be a major factor in the near term.
The Apple Profit Engine Has Stalled & Is Rolling Downhill
Apple is facing a shart decline in the margins of its top two value drivers. May I also add that these two value drivers are 83% of Apple's revenues and an even greater portion of its profits. Such a drastic concentration in only two products who have reached their zenith is not a good thing!
Click the graphic once to view, twice to enlarge to printer quality...
Of course, there is a point at which Apple is a good buy. After all, they have a lot going for them. The question du jour is, exactly what is that point? I refer my subscribers to the research documents below for the answers...
Subscribers, download the Q3 2013 valuation reports (click here to subscribe).
- Apple 3Q2013 Valuation Update - Retail
- Apple 3Q2013 Valuation Update - Pro & Institutional
The update from months ago is also of value for those who haven't read it. It turns out that it was quite prescient!