Elikel Jemina is the smartphone industry’s new best friend.
Every morning, in the West African city of Accra, Ms. Jemina boards a minibus – known as a “tro-tro” – and heads downtown. As the urban chaos of sub-Saharan Africa grows louder, Ms. Jemina loses herself in another world entirely, staring at the chat messages popping up on her smartphone.
“This is my first” smartphone, Ms. Jemina says, holding a tiny Samsung Pocket, a device that does pretty much everything a smartphone is expected to do – Web browsing, e-mail, text, talk, social media, apps. But at a price well below $200 (with no contract), it’s a lot different than most other smartphones in the market that cost two or three times that amount, or more.
Ms. Jemina is an example of the smartphone industry’s new target market – consumers worldwide who want a gadget that does it all, but not at the high price points most devices have carried for years.
Once a status symbol, the smartphone is quickly becoming a commodity product. That means higher volumes but much lower margins – a threat to the hyper-profitability the industry’s biggest players have enjoyed in recent years. The shift is forcing global smartphone manufacturers to revamp their business models, and will have the greatest impact on those companies that until now have focused on building high-end, high-cost devices. Companies such as Apple Inc., which once essentially controlled the consumer smartphone industry, are now scrambling to react to a growing consumer base that cares less about brand and more about the bottom line.
According to data from global research firm International Data Corp. (IDC) released to The Globe and Mail, smartphones costing less than $250 made up 37 per cent of all units shipped in 2012, up from 27 per cent in 2011. An even cheaper segment – smartphones priced between $75 and $100 – grew by 750 per cent. Meanwhile, the highest-priced phones showed slowing or negative worldwide growth, the research shows.
“The world is awash in low-cost smartphones,” says Kevin Restivo, an IDC mobile device analyst.
And virtually all the industry’s major players are caught in the intensifying battle. Just a few weeks after releasing the high-end BlackBerry Q10 smartphone, Research In Motion Ltd. (which operates as BlackBerry) recently launched the Q5 – a similar, keyboard-based phone with many of the same functions as a Q10, albeit with scaled-down performance. But the new device, which is expected to sell in the $200 to $300 range, has a price tag well below the Q10, which typically costs consumers more than $600 without a contract.
The Q5 is aimed at emerging markets, but analysts expect RIM will eventually roll out the device, or one like it, in established markets as well. As RIM sells more low-cost smartphones, its selling prices are bound to remain under pressure. RIM’s average wholesale selling price for BlackBerrys was about $289 in the latest quarter, according to Strategy Analytics, about $100 less than four years ago.
Playing in the low-cost smartphone game promises to be a major challenge for RIM. For years, RIM was the smartphone king, able to command high prices for BlackBerrys. That all changed when Apple’s wildly popular iPhone, then devices powered by Google’s Android operating system, gobbled up massive market share and left RIM on its knees.
For investors, the smartphone price war is grounds for caution. RIM shares have stabilized in recent months after plunging for years, and it has slashed costs and returned to profitability. But profits are a fraction of what they used to be, and sales in the latest quarter plunged from a year earlier.
But Apple may have even more to lose.
Pressures on margins
Apple’s stellar decade-long stock run has faltered over the past year, and although the company continues to post huge profits, price battles will weigh on sales and profit margins.
“They are overexposed to the premium market and also that market is growing at a slower clip than it has historically,” said RBC Dominion Securities analyst Amit Daryanani.
Apple has done little to compete on price for years because the iPhone has been so coveted by so many consumers. For price-sensitive buyers, the company has targeted the low-end of the market by slashing prices on its older iPhones every time a new one comes out. That trickle-down strategy may prove less successful as smartphones become less of a status symbol and more of a routine product sold at increasingly lower prices.
Now it looks like Apple too is being forced to change its ways.
Apple is widely expected to announce a low-cost version of the popular iPhone later this year, and reports this week revealed the company has signed on with a Chinese manufacturer called Pegatron to assemble it. For years, Apple’s main assembly lines belonged to Foxconn, but Apple has turned to Pegatron to broaden its manufacturing and product lines as it pursues a lower-cost device.
But the rise of lower-priced phones all but guarantees that Apple’s once-astronomical margins will drop. Mr. Daryanani predicts a low-cost iPhone will produce margins of around 38 per cent, as opposed to roughly 50 per cent on the company’s top-end devices.
“It certainly puts downward pressure, but it keeps the growth prospects going.”
Mr. Daryanani predicts Apple will release a low-cost iPhone some time this year, perhaps lacking the flagship phone’s high-end “Retina” display and other high-end components. In addition, he says the company will need to focus on building carrier relationships with massive developing-market players such as China Mobile.
Not to be outdone, Samsung Electronics Co. Ltd. is adding more lower-cost smartphone options to its stable.
Samsung, perhaps the fastest-growing smartphone maker in the world, manufactures a high-end line of Galaxy and Note phones, which can cost upwards of $700 without a contract or $300 with a three-year contract, along with several phones at the other end of the spectrum. This week, the company launched the Galaxy Mini, a smaller and cheaper version of the flagship Galaxy S4. It’s expected to cost a few hundred dollars. The strategy is almost exactly the same as RIM's Q10 and Q5 – a high-end, high-priced phone for those who can afford it, and a low-cost version of the same device for emerging markets and price-conscious consumers.
In addition to slowing growth, high-priced smartphones are facing another challenge – the slowing upgrade curves that come when the features of new consumer electronics stop evolving substantially beyond existing models.
“There is definitely the ‘good enough’ factor that comes in any industry,” says Kunal Gupta, chief executive officer of Toronto-based mobile apps developer Polar Mobile. Mr. Kunal refers to the point when consumers are satisfied with the device they’ve purchased and see little reason to upgrade, especially at the high end of the market.
“I think that has happened in the smartphone industry.”
Indeed, some of the phones targeted at the mid- and low-end markets, such as RIM’s Q5 or Samsung's Galaxy Mini, have the kind of hardware specifications that would have made them top-end phones just a year or two ago.
The smartphone industry is facing the same kind of transformation that began wiping out margins in the desktop computer industry a decade ago. Once, desktop PCs were considered high-end devices, worth a premium price. Indeed, Apple once controlled a significant portion of the high-end desktop market, before a glut of cheap, Windows-powered computers almost drove the company out of business. However as hardware improvements hit a natural ceiling for all but the most demanding of users, desktops morphed into a commodity, and it became increasingly difficult to generate much profit off every sale. That left former tech growth titans such as Hewlett-Packard, Microsoft and Dell scrambling to find new business models in software, services and other areas to remain competitive.
“All tech industries mature eventually,” says Deloitte Canada analyst Duncan Stewart. “When they do, gross margins compress.”
Smartphone makers that have focused almost exclusively on high-margin phones are likely to keep making money in the near term. But if manufacturers such as RIM, Apple and Samsung are unable to continue upgrading their most expensive phones at a clip that differentiates them from the quickly improving low-price phones, they may soon find themselves in the same position as commodity PC makers.
“As the top-end phones hit a natural ceiling, mid-range phones are becoming 100 per cent better year over year,” Mr. Stewart says.
“Those two curves are starting to crunch into one another.”
In recent years, upgraded flagship phones from Samsung and Apple have given consumers better screen resolution, more powerful processors and better battery life. But those improvements all have a “good enough” point for many consumers. Even in developed countries, teenagers with very limited disposable income make up one of the fastest-growing segments of the market – a segment that’s much more interested in social networking features than processing power. And because social networking tools are software tools, they can be used on even the cheapest of smartphones.
As a result, the biggest smartphone makers have invested considerably more effort as of late into building their relationships with carriers – something companies such as Apple saw little reason to do when the iPhone was the fastest-selling and most profitable phone in the world. Apple did not respond to a request for comment.
“It’s about what can we deliver and how we can package network services,” says Ken Price, director of marketing for Samsung Canada. “The way the North American market works is very tied to how carriers charge.”
In some ways, Samsung is well positioned among the major smartphone players to benefit from – or at least survive – the impending commoditization of mobile devices. Unlike Apple, Samsung has vast connections through local manufacturing plants and carrier partners across much of the developing world. Because the massive phone-price subsidies that carriers provide in countries such as Canada are relatively rare in many other parts of the world, Samsung tries to entice consumers with other perks. For example, the company has been known to offer free two-year warranties with many of its devices.
But Apple’s comparatively minimal presence in much of the developing world doesn’t necessarily mean the company is doomed. The high-price, high-margin smartphone segment is still experiencing strong growth in Canada and other markets. Even RIM, which has focused much more on the developing world than Apple in recent years, has spent most of its marketing budget so far this year on relatively expensive phones.
The market for high-end phones will continue to exist, even if it becomes overshadowed by a mass market of lower-cost devices. “The high-end of the market may not need to move down” immediately, says Mr. Stewart. “Nobody really buys a $50,000 Lamborghini because there isn’t one.”
Still, smartphone companies know they have to offer more features for the same price, or less, to stay competitive. That push is on display in the developing world, a major stage for the global smartphone price war.
Over the past 20 years, millions of consumers in the developing world bought cheap, reliable Nokia cellphones. But with the rise of smartphones and tablets, the era of talk-and-text “dumbphones” is drawing to a close. Middle-class consumers across the developing world are starting to trade up – not to expensive high-end smartphones like the iPhone, or the latest BlackBerry Q10, but to more affordable devices like the Samsung Pocket, which costs as little as $125, or Nokia’s affordable Asha line of devices.
“There’s a very, very thin layer of top-end smartphones – your iPhone 5s, your Galaxy S4s – because, frankly, people just don’t have disposable income here,” says Vodafone Ghana CEO Kyle Whitehill. “The reason mobile broadband is sitting around 10 per cent right now in Africa is affordability.”
So, even as profit margins in the developing world are thinner, the low-cost smartphone market in regions such as Latin America, Africa and East Asia is now growing too quickly to ignore.
After conducting a recent survey of the smartphone market, Forrester analyst Charles Golvin predicted that Apple has little choice but to focus on building cheaper phones.
“The iPhone remains among the most lusted-after consumer products, but in many developing markets, the device is out of reach for the emerging smartphone buyer due to its high cost; those buyers choose Android devices mainly owing to price,” he said.
Now, a slew of lesser-known manufacturers have jumped in to compete purely on price.
Chinese firm Huawei, for example, has built dozens of low-cost smartphones and tablets, leveraging the company’s presence in wireless network equipment and a host of related industries to keep costs down.
Others manufacturers, such as Tecno Telecom, which specifically targets mobile phones in African markets, are more limited, but are growing in numbers and volume.
In turn, lower price points are fundamentally changing the makeup of emerging telecom markets, where regular cellphones with limited functionality still account for the majority of mobile devices in use. As low-cost smartphone makers improve their products in the developing world, they could also set their sights on more established markets.
“It’s going to definitely evolve,” says Ken Campbell, formerly of Wind Mobile Canada and currently CEO of Tunisiana, a wireless carrier in the North African country of Tunisia.
“You’ll see those prices come down… You’ll start to see significantly more [smartphone] volumes coming from emerging markets.”
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