platform

About 10 years ago I met an advertising executive in New York who explained the difficulty of advertising a new brand of deodorant to consumers. “Most people never change their deodorant,” I remember him saying. “They pick one brand when they are young, and stick with it for a long, long time. If it works, why switch?”

The same theory can be applied to customers who are making the switch to smartphones today. Once they have picked a type of phone, whether it’s Apple iOS, Google Android or something else, it’s difficult, and often expensive, to switch. Consumers become comfortable with the interface and design of the phone and the apps they have purchased on that platform. If it works, why switch?

Many Smartphone Customers Are Still Up for Grabs - NYTimes.com

This quote says a lot. The notion that customers remain captive to a platform is well understood. After all, it seems impossible to get people to switch out of Windows (or Mac or iPod). Platform vendors are aware of this as the land grab for users seems to be running at full pitch.

However, there is a critical condition described in the quote above: "If it works, why switch?"  The condition which keeps users loyal is that the product they chose is good enough--i.e. "it works." That's a symptom of over-service and commoditization. If a product, like deodorant, is good enough you won't be tempted to move to another brand even if it's marginally better since the new brand has switching costs in the form of uncertainties ("Will it be as good? What if I don't like the smell? etc.) People are inherently conservative and you can't compete with comfort and familiarity by launching a marginally better product.

So with that in mind, why is it that millions are switching mobile platforms?In this blog I've cataloged the massive shifts occurring away from mobile platforms that have been around for years with deeply entrenched user bases. Microsoft's Windows Mobile, Nokia's Symbian, Palm's PalmOS and RIM's Blackberry have collectively lost tens of millions of users. A net of half a million Blackberries are being abandoned in the US every month.

So we would need to say that the condition of "it works" or being good enough was not met with those platforms. The attraction of something better is clearly greater than the switching cost.

So this highlights a good test for how to tell if smartphones are good enough: If users are fiercely loyal with a given platform then it's probably good enough but if they are willing to switch (i.e. disloyal) then it's probably not good enough. It seems like a trivial observation but it's a very important clue to the bigger question of whether we can "call the end" of the market. Just like it would have been premature to call the end in 2006 when Symbian and RIM seemed unbeatable, it will seem premature to call the end now in the event that a significant innovation is yet to appear.

The correct calling of the end has profound investment implications. Do you (like Microsoft) invest billions in a new platform if you know that there is no more room for entrants? Should Samsung bother with Bada or HP with WebOS if the game is already over? Even more, should Apple even bother to improve iOS if they have no shot at switching a billion likely Android adopters. Why not just nurture the current installed base and work on building walls and moats around them?

So with this hypothesis in mind, it makes sense to analyze whether Android or iOS, the current presumed champions, are "good enough" on the basis of how often users switch out of them. My bet is that neither is good enough and that there will be increasing churn between platforms. I imagine that Android is less sticky (and hence less than good enough) based on app consumption but there is little evidence of churn because most phones in use have been bought less than one device generation ago. More importantly, there have been few opportunities yet for switching as many Android buyers don't even have the choice of other platforms either due to where they live or how much income they have available.

To really tell where we stand, we would need to collect stats on switchers to know just how satisfactory the platforms may be. Remember that a choice of a new deodorant on the same shelf at nearly the same price is the test for loyalty. For an adequacy test we need to see better distribution and more choices for consumers. It's still very early even in the US for any conclusions to be drawn about the adequacy of Android.

Ever since the iPhone launched four years ago (to the day), the question on everyone's mind has been: When will Apple expand the portfolio to reach into all market segments? I remember thinking in 2007 whether it would be in six months or a year that they would create a "mini", "nano" and "classic" line-up which served them so well with the iPod.

Apple however took a different approach. To their credit, they focused on the platform and built a consistent experience around a fixed screen size to nurture an ecosystem. They also improved the power of the device so that experience would improve to be better and more robust. In other words, they treated every iPhone as not being good enough, needful of every megahertz of power, every pixel of screen and every minute of battery life. They polished the OS constantly and added APIs by the thousands.

In other words, they acted like a computer software company, not like a "device vendor" or like a handset manufacturer which was everyone's (including mine) frame of reference.

Having expanded from iPhone to iOS and built the platform into non-cellular centric computers like iPad and iPod touch, they clearly showed a nonchalance about the operator channel and the amplification power it offers (an amplification which comes with a hefty price of dependency and strategic illusion.)

But the mind always wonders back to the question of portfolio. Now that the product is maturing, the hardware is getting nearly "good enough". Perhaps even Apple might now consider letting go of the "frontier" of what's technologically possible and consider expanding its reach to the broader audiences it has willfully kept out of reach.

And broad they are.

Based on data published by Deutsche Bank and the ITU, we can calculate roughly how many customers Apple's current iPhone positioning has left unserved. I chose to use pre-paid/post-paid split as a proxy for unaddressed/addressed. This is an imperfect proxy but a pretty good one as most pre-paid subs see a full price for the iPhone (retail around $700 to $1000) vs. post-paid customers seeing a price of $200 or below. The $200 happens to be an important psychological price inflection point where volumes increase dramatically.

The first chart shows the global split between pre-/post-paid subscribers as of 2010. Roughly 1.5 billion are post-paid and 3.7 billion are pre-paid. That means that nearly 70% of the world is not being addressed by the iPhone as it currently stands. Put another way, a shift in positioning might result in a 250% increase in addressable market.

Tim Cook alluded to this in the last conference call when he said pre-paid markets, especially in China, are huge with share figures "starting with a nine". He also said separately that they would not be ceding any market--a hint if there ever was one, given the broadening of Android into previously feature-phone price bands.[1]

We can even see the situation more clearly on a regional scale. The following chart shows the same pre-/post-paid split by region.

You can visualize the iPhone having spent the last four years penetrating into the blue areas of the chart through the expansion of carrier agreements. With half the US & Canada area being finally filled in this year, most of the blue is now more-or-less within reach.

Given the constraints on production, and given the improvements in the product and the improvements in the hardware (learning curves and price points) it may mean that Apple could finally be turning its attention to those orange areas.

The time may be soon at hand that maturity coupled with limits of organic growth are leading the four-year-old iPhone to finally be re-defined as more than a post-paid skimming entrant. It may be time for the iPhone to more than just grow. It may be time for it to grow up and take on the whole market. Five billion people are waiting.

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Notes:

1. Contrary to a commonly held belief, Apple does not shy away from market share. In the case of the iPod and even the original Apple 2, the company sought and obtained the top share ranking. In fact, the decision to pursue share vs profit is "context sensitive". Steve Jobs, at least, thinks so.

Технологии и наука | Хорацио Дедиу: Никой не иска да купи Research In Motion RIM - Капитал.

My thanks again to Andrian Georgiev for interview questions [Bulgarian] related to RIM. My answers to his questions (in English) are below:

Q: What should RIM do to reinvent itself? Should it stray from its business-oriented image?

RIM had begun to move away from a business image already in 2005 or so when it started its "Pearl" brand and a consumer-oriented strategy. The company probably foresaw that business customers would not be enough to maintain the growth they had become accustomed to. The strategy has led to a growing popularity in Latin America and other regions like the Middle East where the product is used as a low-cost alternative to SMS for avid texters. Even in the US, many teenagers use Blackberries instead of iPhones because they can use it for the BBM service (at a lower cost). I believe that it is not coincidence that iMessage was launched.

The company's salvation is not in branching into new markets but in establishing a credible platform. When Nokia announced that they would be the "third option" after the iPhone and Android ecosystems, they did not even mention the Blackberry. The fact that Blackberry is not seen as an ecosystem is the root of the problem.

Q: How should RIM accelerate the introduction of QNX?

QNX is a solid operating system and I believe RIM should have begun developing with it much earlier. By waiting long after the iPhone launched (and even after Android) to upgrade its OS, RIM missed a great opportunity. The foothold market the company had was wasted by not leveraging it into building a mobile computing ecosystem.

There is little that can be done to move any more rapidly now. Product development cannot be done any faster. What the company could do is to very carefully define why QNX based products are better than the competition and not rely on specifications. In other words, what jobs does their platform solve for users that current solutions don't address? I note that this is the problem with the Playbook. It's not differentiated on what it does to improve the life of the user.

Q: Should RIM move on with just one CEO?

The problem is not the number of managers but their view of the world. What would benefit the company is a better marketing manager where marketing is defined as understanding of user needs. Engineering expertise is not enough.

Q: What would you advice RIM to do in terms of R&D?

RIM is an engineering led company. Many successful companies rightly develop their engineering skills first because that is what allows them to create new products more quickly. This is true of Nokia and also of Apple and Microsoft in their early years. What is difficult is to allow marketing people to define products after that early phase. This is partly due to the fact that there is less respect for "Marketing" among engineers. Many see it as a "soft" discipline where there is little rigor. But this is not an accurate or fair picture. Great marketing determines what products should be built not just how they should be sold. Engineering can discover new products based on new technology becoming available, but Marketing can discover new products based on unmet user needs. Both need each other.

My advice would be to allow a way for R&D to absorb input from marketing.

Q: Do you think that RIM could be bought by a bigger company in the short-term?

Mature companies are usually bought for their assets and not so much for their vision or priorities. The opposite is true for young companies who are selling themselves to the public via IPOs. For young companies the vision or priorities of business models is seen as more important. When companies are only valued for their assets, they are usually very under-valued. When companies are only valued for their vision, they are usually over-valued.

RIM's challenge is that nobody believes they have any vision and their assets are weak (no good ecosystem as I pointed out above.) So the price anybody would pay for RIM today would probably be far lower than what management thinks it's worth. And since they are still profitable they won't sell the company at a deep discount.

So my guess is that we won't see any acquisition soon.

There are 225 million iTunes account holders. 25 million joined in the three months. As the iTunes store has been operating since April 2003 it's possible to step back and look at its history and measure the rate of growth relative to other ecosystems.

The following chart shows various platforms/ecosystems in terms of adoption. In the case of phone operating systems and consoles, the cumulative units sold is shown. The scale is 10 years by 1 billion users with users measured on a logarithmic scale.

What can be easily observed is that iTunes continues to grow on a logarithmic scale even at its advanced age of 7 years. This cannot be said for console-based gaming systems or for some alternative mobile phone platforms (e.g. Windows Mobile or Symbian).

The reason for this prosperity at an advanced age may be due to the fact that iTunes has survived the transition from one device (the iPod) to a device platform (iOS). It also was able to embrace multiple media from music, to movies to TV and apps. iTunes turned out to be far more flexible and resilient given what was technologically foreseeable at its birth.

Looking to the future, is it possible that iTunes could grow in parallel with iOS toward the 1 billion user limit that the slope in the chart implies? Much will depend on gaining users who are unlikely to have credit cards and live in emerging markets. If there is one obstacle to the iEmpire it's the addressability of markets which lack consumer credit infrastructure. I suspect, however, that these problems are not unsurmountable given that telecom infrastructure leapfrogged credit infrastructure growth with nary a ripple. Apple could certainly offer that service directly to the consumer.

In their monthly survey update on US phone usage, comScore reported that by the end of April 74.6 million people in the U.S. owned smartphones. In the same period a year ago only 48.1 million did. The percent of smartphone users out of total phone users has reached 32%.

The following data points can also be deduced:

• 2.1 million or 474k people/week became smartphone users during April.
• 62% of smartphones in use in the US are either Android or iOS. The sum a year ago was 37%.
• There are about 20 million iPhone users and 27 million Android users in the US today. A year ago there were 12 and 6 million respectively.
• RIM's US user base peaked at 22 million in Sept 2010. It is now 19 million and dropping.
• Usage of Microsoft mobile operating systems in the US is in steady decline dropping from 7 to 5 million users in one year.
• During April 475,000 people abandoned their Blackberries.
• Android and iOS gained 3 million users in April. One million switched from other smartphones and 2 million switched from non-smartphones.

The following chart shows the evolution of installed base share of platforms among users of smartphones in the US.

The impressive share gains for Android are apparently at the expense of RIM and Microsoft. Over the period shown, Android gained 25 million users while RIM gained only about 2.8 million.

Although perhaps comforting to see some growth overall, the situation for RIM is more grim than that. During the first half of the period (December 2009 to August 2010) RIM had gained 4.6 million users. During the second half (Sept 2010 to April 2011) RIM lost 1.8 million users.

The net user gains and losses for the various platforms is shown in the following chart:

Note how RIM (green bars) went from being a consistent net usage gainer to a consistent net usage loser during this 16 month period. In addition, note how Microsoft's platforms (yellow bars) have had a very poor showing with very small gains during four months and moderate losses during the others. The losses in usage even increased after the release of Windows Phone late last year suggesting no traction whatsoever for Windows Phone.

The other point to be made is that if we assume smartphone users remain smartphone users, then those platform losses are gains by other platforms. In other words, the areas less than zero in the chart above represent smartphone "churn" or switching between platforms (As a percent of all smartphone users that number represents 1.35%.) That number is far lower than the total smartphone gains, so it's safe to say that most of the iOS and Android gains were at the expense of feature phones rather than other smartphones. And since iOS share is consistent (and supplies are constrained), few if any Android gains are at the expense of iOS.

There are many interesting patterns to observe in the data, but I think the most evocative is the erosion of Blackberry usage. If the Blackberry peaked, and a follower platform not yet in sight, the question is how long will RIM survive?

Yesterday Nokia warned that its guidance for the quarter and the year were "no longer valid." The surprise to me is that management was surprised. In February I warned that even if Nokia could fool consumers into buying products whose platform was publicly executed, distributors and operators would not likely go along with the deception. Pricing collapse is the proof of a channel breakdown.

That seemed predictable. What I struggled with was how Nokia itself could present such an optimistic forecast. Absent any explanation, Nokia's forecast of robust sales for Symbian products into the near future belies a failure of understanding of the dynamics of platforms and especially the impact of destruction of trust and brand value that commenced in February. Distress is a slippery slope and it does not model well in a spreadsheet. It takes a leap of non-linear faith to predict the piling-on effect on the up- and the down-side.

Faith in the company's guidance meant that the market reacted to the bad news by discounting Nokia down to a market cap of $26.7 billion. One analyst even cut his target price down to $4/share, 57% of yesterday's close. How can this fair? What is Nokia's phone business worth?

Here's a quick sum-of-the-parts analysis. After yesterday's hair cut Nokia's overall enterprise value is about $20 billion. The Navteq part of the business (purchased for $8.1 billion in 2008) could get a value of $3 billion (based on about 3x sales) and the value of Nokia Siemens networks could be at $6b (less than 0.5x sales). That makes Nokia's phone business worth about $11 billion.

An alternative view based on "the Motorola case study" $4 target price would imply an overall enterprise value of $11 billion. This either makes Navteq and NSN worthless and Phones worth $11 or it makes the phone business worth a lot less than $10 billion. Perhaps less than $8.5 billion which is what Microsoft paid for Skype. Should we be shocked? Nobody would argue that Nokia is worth more than Facebook so who's to say that Skype or Twitter aren't more valuable than a device company in crisis?

I don't try to predict the market's behavior, nevertheless, the markets are now very skeptical that there is much in Nokia to salvage. It's perhaps unfair and illogical but this is the end game of disruption. It ends much more suddenly than it begins. It's the consequence of nobody noticing the beginning that makes the end so shocking.

Measurements of "share" are abundant. There is journalistic value in summarizing performance in a single figure of "share" but it usually is a very limiting view. For example in the global mobile phone market there are at least the following measurements available:

1. Share of all handset units sold
2. Share of installed based of handsets (penetration)
3. Share of smartphones
4. Share of mobile computers
5. Share of value (revenues) captured
6. Share of profits
7. Share of platforms
8. Share within a given platform
9. Share by regions/countries/geographies/demographics

One could go on. So performance in a market can only be measured if you know to what end is that measure applied. Are you trying to determine current performance or are you assuming that the future will be different and trying to figure out what that future will look like?

There is no good answer. It depends. But at least we can combine more than one share value into a summary. Mark Hernandez suggested that I put forward a "composite index" to measure vendor performance. I am willing to give it a try. The first iteration can be an unweighted average of four "shares":

1. Share of all handset units sold (global)
2. Share of smartphones
3. Share of value (revenues)
4. Share of profits

The raw data for each share is shown in the following charts (note change of vertical scale: each gridline represents 10%).

Note that the vendors are arranged in a particular way: top row are entrants, bottom row are incumbents with late incumbents from Korea arranged in the middle.

Taking the average of each of the lines above, the unweighted share index (Units, Smartphones, Value and Profit) is shown below:

Over the time period since Apple's entry in the market, the index shows interesting patterns:

• Apple and Nokia trading places
• Relative stability for Samsung
• A leveling off for RIM
• The Peaking for LG
• Very tightly coupled declines for Motorola and Sony Ericsson
• Gradual improvement in HTC

And here it is in sparklines:

Like many indices, this is a generalization that measures a section of reality. The value is in its use as a benchmark. If nothing else, it has journalistic value. I'm open to suggestions on how to improve it. Perhaps some form of weighting would be useful. Also, if anyone can suggest good name for it, it might be easier to communicate.

In the last post, I highlighted the difference between smartphones and non-smart device sales last quarter. The trajectory of share growth for smart devices would appear to have accelerated due to Android.

The following charts show the evolution of smartphone vendors and platforms over the last few years.

Like in the past, I used color clustering to show the separation between "integrated" (in green) and "modular" (in brown) platforms and their users.

Unlike the non-smart market where "other" make up 30% of the market, smartphones are still a big brand business. "Other" make up only 11% of units. and that number has been trending down. It would seem that the age of unbranded Android phones is still not upon us.

Comparing three years "before and after" here is Q1 2008 vs. Q1 2011 by vendors share:

 

Apple added 15% of share, Samsung 13%, Motorola 4%, RIM and HTC 2%. Nokia lost nearly 20% of share.

From a platform point of view, the unit chart looks like this:

Note that Android's growth came at a time when Symbian had a terrible quarter. The evidence is visible in the share chart:

Android's gain seems to be at the expense of Other, Windows Mobile and Symbian. In the pie chart snapshot over a three year period the transfer seems clear.

Android took 35% of share, iOS 14% and RIM 1%. Windows Mobile/Phone has collapsed to 2%.

But again I would caution about drawing "sustainability" conclusions from looking at this market with a share perspective. As it's growing at a huge rate (73% year/year) it's bound to be become so large that single digit share numbers still amount to vast ecosystems while huge shares of fragmented products don't amount to much of value. To emphasize the point, I would remind that in 2008 Symbian was not just Nokia but a lot of "Other" was made up of Symbian in Japan. The combined fragmented footprint of Symbian was well over 60% of the market. It did not do much good for the platform.

The smartphone market grew to about 100 million phones last quarter. The volumes grew sequentially and as a result reached a new record share of 27% of total phones shipped. The chart on the left shows how this market evolved over the last few years.

I've added each platform's contribution.

While much of the focus will be on who had what share, the better question might be who has the better chance to beat smartphone non-consumption? Non-smart devices are still the dominant competitors. Though it's getting easier to win against them, they still have some compelling competitive advantages.

What the chart shows is that Android (and phone versions of iOS) have taken share from direct competitors but have taken more from non-consumption. Rather than focusing on rivalry between platforms, minds should be focused on the shape of the smartphone adoption curve.

The market is largely un-penetrated and yet some argue that "it's too late" to enter or that "the game is over" and winners have already been decided. This is an argument that we are at the beginning of the end. Once the market is predictable it's discountable. Once it's discountable it becomes economically uninteresting.

I've argued that this is far from certain. In a short span of a few years, a decades old business has been re-defined. But that was just the device side of a larger business. Smartphones have been, so far, sustaining to the telcos who capture the vast majority of revenues and are thus the true incumbents.

If and how they will be affected by further evolution of smart devices and new business models around them remains to be determined.

While a lot of the credit for Apple's success is rightfully assigned to the iOS franchises, the OS X business has more than quadrupled in five years. This has happened without drastic price fluctuations. Neither holds for the overall PC industry which has seen both volume and sales decline while prices have eroded along with profitability. On top of that, growth has nearly evaporated.

Even with this success, as a percent of total value created, the Mac accounts for a mere 13% of Apple's profit. Including software as part of the OS X franchise implies that OS X is enabling about 20% of Apple's profits.

iOS, on the other hand, is accounting for more than 75%. These two platforms combined amount to 96% of Apple's profits (up from 50% four years ago).

That's $9.8 billion from integrated platform-based devices. One can be very confident that this profit would be negligible without the software differentiation only Apple can offer.

So $10 billion is a lot of profit to obtain from a business enabled by operating system platform software. How can we get a handle on this size? How big is this? We could compare this with another operating system business: Microsoft Windows.

Microsoft's Windows and Windows Live Division obtained sales of $4.445 billion in the last quarter with an operating income of $2.764 billion.

So although Windows earned about twice what the Mac earned[1], iOS and OS X together enable 3.5 times the profits of Windows.

The end of an era is the end of growth in one dominant business model. The PC era was epitomized by the concentration of profits in a dominant operating system vendor. That growth has slowed if not ended. The post-PC era is being kicked off by a new business model where profits are being concentrated in a hardware+software+service integrator.

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1. Or you could read this as: The Mac generates half the profits of Windows while iOS devices generate 2.3x Windows profits.

Apple's last quarter's sales growth was an impressive 83%. It was not as high as the 92% earnings rise because there was a higher mix of iPhones this quarter than in the past. The iPhone is the most profitable product in Apple's portfolio so it impacts the gross margin significantly.

The iPhone is, in fact, a huge part of Apple's business. In units it reached 5% global share and 14% US share. I'll go over the overall industry data as soon as all the major reports are in, but already it has been estimated that Apple is the largest phone vendor by profit and sales.

In the following chart, you can see just how important the iPhone has become. Together with the iPad and iPod touch, iOS-powered devices make up about 65% of sales. That's almost three times the value of OS X based products which make up 23% of sales. That also leaves just 12% of sales not directly affected by these two juggernaut platforms (though music and peripherals are clearly indirectly affected by Apple's own platform products.)

The following chart shows the same information as shares of total net sales.

I've read that some of the uncertainty around Apple's future prospects is driven by the perceived vulnerability of these new blockbuster iOS products. At first glance this growth looks quite unprecedented and hence risky. 65% of sales from iOS did not exist four years ago. If you look at the sector it's hard to find any company that has doubled its sales in a few years from completely new product lines. Especially a mature company over 40 years in the business.

Well, there is one.

If you look again at the second chart above, you'll note that the proportion of sales held by iOS devices has mostly replaced the sales share that used to be held by iPod, itself a product that did not exist four years prior to the time of these charts.

Apple consistently doubled its sales on the basis of the iPod. It's now consistently doubling on the basis of iOS.

Exceptional claims require exceptional evidence. But that's exactly what the investment thesis for Apple should be: Exceptional growth is no exception.

Steve Jobs himself said it well once: "I wasn't alive then, but from everything I've heard, Babe Ruth only had one home run. He just kept hitting it over and over again."

Even this exceptionalism is not unique. It happens not just at Apple, but at another of Jobs' creations: Pixar.

Perhaps this magic formula for exceptionalism is itself a fluke but what if it's not. What if blockbusters are really something that can be built with repeatable consistency. What would that be worth?