The Battle for Smartphone Supremacy
There's a war being raged in Silicon Valley. On one side: Apple. On the other: a tech titan that's partnering with hardware vendors and blanketing the market with software running on devices across various price points. Apple chose to go it alone, controlling the hardware, software and distribution, while the other focused on its operating system, letting partners figure out the hardware. If it sounds familiar, it is. Microsoft did it two decades ago. But this is a story about Google, and history is repeating itself. Google is taking a page out of Microsoft's book, aiming for widespread adoption. Meanwhile, Apple is taking a page from... well, Apple.
The lessons from the PC wars are repeating in the mobile wars: the stronger you are, the stronger you'll get. It's an idea that's dominated industries since 1981, when IBM released the PC. Back then, companies quickly cloned the desktop, and three years later, when Apple released the Macintosh, MS-DOS dominated the market. Two million PCs were sold each year, beating the Mac's 400,000 units handily. In other words, Microsoft crushed Apple by five-to-one. When Microsoft released Windows 95, PCs took off, outselling Macs by a ratio of 60-to-one. By the end of the '90s, Windows had clearly won the PC wars. Microsoft would then leverage its self-perpetuating ecosystem to lock in a monopoly. Business was great over the next decade. But then, in 2004, things started going wrong.
The state of the PC market is in bad shape. Microsoft, Intel and AMD are reporting diminishing sales. Microsoft, no doubt, has its own transition issues, and the PC world at large is grasping at straws known as Windows 8. Even mighty Apple reported falling shipments of Macs -- down 7 percent in the July-September period alone. Meanwhile, consumers are buying more smartphones and tablets -- a trend that's replacing Microsoft with Google and Apple at the helm. For Apple, that's a tradeoff that's worth it, given its hefty profit margins from the iPhone and iPad. Microsoft, meanwhile, is scrambling to adjust. If there's any doubt of the emergence of mobile, just ask the kids. One-in-two say they want an iPad for Christmas, and one-in-three, an iPad Mini. How many want a PC? Yeah, that's right.
To say Microsoft missed the boat would be an understatement. Microsoft missed the boat, dock and hitched a ride to the middle of Nebraska. To compound the blunder, Microsoft, an early adopter with Windows Mobile, spearheaded the smartphone revolution, but rather than lead the revolution, it lost focus. Or rather, it didn't execute.
Back in 2009, Microsoft did see the next big shift -- the decline of the PC and the transition to mobile devices. But instead of throwing resources into its mobile platform, it decided to push online services. To CEO Steve Ballmer, smartphones and tablets were remote controls, used to access data stored in the cloud. Or as he called his vision: three screens and the cloud. Ballmer wasn't far off -- computing did move to the cloud. But the seismic failure didn't blindside Microsoft on some idle Tuesday afternoon. It was a gradual rolling collision. No, the problem is its fundamental way of doing business -- going really big. You see, the problem with going really big is that you need partners, and Microsoft doesn't like to build hardware. For that, it has vendors. The Redmond, Washington-based company focuses on software, and an army of hardware vendors build the gadgets that run Windows. It worked decades ago, and it should work again, right?
Well, it should have, except the software wasn't that great. Windows Mobile was notoriously buggy, and its hardware vendors made mediocre gadgets at best. By 2011, Windows 7 captured less than four percent share of mobile market. Apple, meanwhile, posted the third-highest growth rate, while Samsung, backed by Google's Android platform, surged selling nearly one-in-four devices. Microsoft lost faith in its vendors, and in October, decided to go it alone, releasing its own tablet, dubbed the "Surface." To hell with partners, this is survival mode. And Microsoft is scrambling to stay relevant.
For Ballmer, the fight ahead is huge, and the consequences of failure are dire. By dithering and failing to capitalize on its Windows advantage, Microsoft is now vulnerable to direct competition. It needs to fight without an edge -- a position it's never been in before. The success of Windows, most importantly, hinges on its ability to attract consumers and third-party developers, so it can populate its lagging app ecosystem. Only then can Microsoft join the second platform wars -- the mobile wars.
Google's Mobile Strategy
Through the years, Android has grown like gangbusters. To date, more than 500 million people carry an Android device, and that army is growing each day. To say this was part of Google's master plan would be wrong. In fact, it estimated a lower growth trajectory. If Google itself didn't see it coming, you can bet nobody else did either. So what happened then? The answer lies in Google's business model. It's a fairly straightforward plan: make products people use, collect data and serve ads that target them. That's what Google does with ads, and that's what its plans are for Android. Sure, there's revenue from app sales, but that's nominal.
By far, ad revenue still powers the Google engine. So as people search more on their phone, and less from their desktop, Google has pushed Android to keep its dominance in online advertising. Only by feeding search does it have the cash flow to enter new markets like smartphones. And to get Android, and Google search, into as many hands as possible, it pays a cut of that ad revenue upstream to its distribution partnerships -- carriers like AT&T and Verizon and hardware vendors like Samsung and HTC. So when you do a Google search on your Galaxy, that cha-ching sound is going to Samsung.
It's nothing new; Google pays publishers a cut, upwards of 70 percent, to add its AdSense code to websites. And Google sees Android as a similar syndication platform. Give away Android, lure as many partners as possible with checks and dominate the market. Then blanket the world in mobile ads. Simple.
Apple's Game Plan... Again
Apple, meanwhile, plays a different game. Like the Mac, it tries to control the hardware, software, distribution channel -- everything. Nowhere was that more clear than when Apple released the first iPhone in 2007. Back then, AT&T paid a premium to be the exclusive U.S. carrier, and consumers left Verizon, Sprint and T-Mobile in droves to sign up with AT&T. The only other place you could buy it? In its Apple Stores or on its website.
Steve Jobs was able to dictate terms because he had an iconic device. Apple's a product-centric company, where every gadget is meticulously designed for the most elegant experience. Consumers snapped up anything Apple, and they give clout to anyone they feverishly follow.
So when AT&T's deal expired, Verizon and Sprint paid and arm and a leg to carry the iPhone. "You've got to almost put the iPhone, to be fair, in a separate category," Sprint's CEO Dan Hesse said. "The Apple brand, and that device, has done so well -- it's like comparing someone to Michael Jordan."
Unlike Google, Apple makes carriers pay them outrageous sums -- specifically, around $600 per iPhone, which they sell for $200 with a two-year plan. Carriers then have to slowly recoup their fee by charging customers 24 easy payments.
The Future of Mobile
There are many similarities between the strategies of Google and Microsoft. There are also many similarities between Apple today and Apple from yesteryear. No doubt, the future changed, but some things stay the same. Everybody knows Android and iOS are wildly popular. The two operating systems own 85 percent of the smartphone market, according to IDC. Android, however, nabbed the lion's share, owning nearly a 70 percent share. In fact, iOS and Android growth is 10 times greater than PC adoption in the 1980s, according to Flurry Analytics. And smartphones, by comparison, are gaining users twice as fast as the Internet did during the dotcom boom in the '90s and three times faster than social at its peak a few years ago.
In total, 640 million iOS and Android-based devices are in use. And out of that, 128 million are in China. What does that mean? Emerging regions are just as important, if not more, as developed markets -- if not for the market share, then for the potential of growth. In the U.S., the wireless market is largely a saturated industry. Most people have a phone, often two. But in places like India and China, people who've never used a PC often get their first taste of the Internet through a smartphone. It's a bridge connecting billions in never-before ways.
In May, for example, mobile traffic surpassed desktop Internet usage in India -- and other emerging countries are following, due to the dropping cost of smartphones. And for many, Android is their first crucial experience of the Internet, not Apple. But more importantly, there are even more that still don't own a smartphone.
Google, which relies on hardware vendors, releases a varying product line covering high-, mid- and low-end price ranges. And due to the cheaper price, Android devices are ramping up at a six-to-one rate compared to the iPhone, according to Mary Meeker of Kleiner Perkins. Sound familiar? History tends to repeat itself, and Apple is in peril of making the same mistake it did with Microsoft.
Where Apple Is Weak
Looking back, Microsoft found success by building a platform quickly, and scaling it to a dominant position. To get third-party developers onboard, ecosystems need that self-reinforcing mechanism -- more users means more software sales for developers, more developers means more software to lure consumers. That's what Research in Motion couldn't pull off. That's what Hewlett-Packard couldn't pull off. It's a chicken-egg syndrome, and until now, only Google and Apple have started rolling the lucrative snowball. But where Apple attempts to create one perfect product to sell to the masses, Google, with its partners, is releasing a ton of products, in various price ranges, with various features, in hopes that a few stick.
Apple might have the upper-hand in some markets, but in price-sensitive ones, like emerging markets, it's losing the war. In 2012, the number of global mobile users reached five billion, according to Morgan Stanley Research estimates -- but out of that, only a fifth, or a billion users, owned smartphones. Android is on pace to dominate the industry by unit sales and market share. And in the year ahead, the number of smartphone and tablet install bases will finally exceed the PC install base. Meanwhile, mobile traffic will account for 13 percent of Internet traffic in 2013. Said in another way, Google is going to pull away.
Google's play is similar to Microsoft's dominance of Windows decades ago. Sure, Apple supporters often argue iPhone sales account for two-thirds of the mobile industry's profits. And that's a testament to its "perfect device" strategy. But the one-unit business model has its limitations -- and it's effectively pricing Apple out of emerging markets.
Windows and Intel dominated not just market share but profits. But hefty margins resulted from worldwide adoption of the platform. The mobile industry is fundamentally different from the PC sector decades ago. Android is expanding its reach, iOS is dominating profit margins -- both are succeeding in different ways. They're playing different games. But perhaps the biggest difference is Google's long-term approach, giving software away, collecting partners, and building its ecosystem. Meanwhile, Apple continues to control every aspect of the experience, and vertically integrates hardware, software and distribution.
Apple has a more streamlined, uniform experience, while Google suffers from fragmentation. But for the year ahead, and beyond, getting smartphones in more places, in the hands of more people, will ultimately win out in the platform wars. Don't believe it? Just ask Microsoft.
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Categories: Features | The Year Ahead