Apple And Samsung Have 106% Of The Smartphone Industry's Profits

In the smartphone business, some things haven't changed: Samsung and Apple continue to represent the only two smartphone suppliers that actually make profits on sales of smartphones.



Apple earned 65 percent of smartphone profits while Samsung earned 41 percent, in the first quarter of 2014, according to Canaccord Genuity.



Whether Nokia, Motorola, Blackberry and HTC can move from losses to gains is not clear. Nor is it clear when that might happen. 



Recent moves by leading U.S. mobile service providers away from device subsidies is not going to help, as those moves could, or should, depress the rate at which customers replace their smartphones. That implies lower sales turnover, which would not help efforts to improve profit margins. 

Will Netflix, Amazon Prime Price Hikes Do Lasting Damage?

Will Netflix and Amazon Prime find planned subscription price hikes have long-term negative impact? Though there might be near term impact, there is reason to believe there will no significant long term impact on subscriber growth or perceptions of value.

The reason is past Netflix experience with significant price hikes, as well as most history of price hikes in the subscription video business.

To be sure, subscription service price hikes often are troublesome in markets where there is significant competition, since customer defection is a possibility.

But there are cases where price hikes, even annual and significant price hikes, do not seem to do much damage to take rates.

Subscription TV has proven to be such a market, at least until quite recently. Despite virtually annual price increases that outstrip general inflation rates, the overall linear video subscription business had grown virtually without a dip until 2013 or so, when overall subscriptions dipped for the first time, ever.

Many would argue future price hikes will occur in a different business context, though, where the business is flat to shrinking, and with competitive offerings gaining subscribers as well. And one might well argue that the online video entertainment business is at a very early stage.

That might bear a greater resemblance to the earlier days of cable TV, allowing a situation where adoption keeps growing despite price increases.

And Netflix will over the next year or two find out what higher prices do for take rates and churn, much as Amazon will find out what price hikes for Amazon Prime do for take rates and churn.

To be sure, consumers might suggest there is some danger of churn. In a recent survey, 14 percent of Netflix consumers who use the streaming service said they would cancel their subscriptions if the monthly price climbed by $2.

The YouGov survey also found that if prices were hiked by $1 a month, just six percent of Netflix streaming customers reported they would cancel their subscriptions.

But consumers often do not act as they indicate they will. Just as often, consumers say they will not do something, and do.

That sort of disconnect might be more common when surveys deal with behaviors and attitudes. But the danger of misleading survey results is rather common, even for most commercial products.

Perhaps the biggest problem area is the accuracy of end user remarks about potential future behavior. Quite often, the reported expected behavior does not materialize.

There are two other areas of concern. Consumer surveys often are inaccurate when used to ascertain why consumers behave in certain ways, or might behave in certain ways. That limits ability to shape promotional strategies, for example.

Also, end user surveys relying on self-reported reasons for past behavior can err, as the actual reasons consumers made a purchase decision might later be described in other ways.

Such error can occur especially when asking “how much would you pay” for a proposed product.

When asked, consumers often will choose the lowest price. But actual buying behavior is a mix of perceived value, product quality and features, in relation to a specific price.

That is tough to capture is a survey.

Also as Steve Jobs, Apple CEO noted, consumers have no way of evaluating the value of a product they never have seen.

Netflix and Amazon won’t face that sort of problem. Consumers generally understand the product and the value. What remains uncertain is possible falloff from current users who deem price increases out of proportion to value.

Amazon has hiked Amazon Prime prices about 25 percent, as did Netflix several years ago, for new customers. That lead to significant customer churn for Netflix, at least temporarily. But subscriber growth continued, after the hiccup.

Amazon is gambling a similar hiccup might occur, but would quickly prove to be a temporary phenomenon.

Netflix ran into a huge problem when it repriced its services to emphasize streaming delivery in 2011, losing about a million subscribers after the 2011 pricing change was announced.

In that move, Netflix eliminated a popular “DVD plus streaming” plan costing about $10 a month, in favor of separate DVD rental and streaming plans each priced at about $8 a month. That might have represented a 60-percent price hike for consumers who wanted DVD and streaming access.

This time around, Netflix will apply the higher charges only to new customers, grandfathering existing users for perhaps a year or two.

And Netflix is not talking about potential 60 percent price hikes, but something more on the order of 13 percent or 25 percent, on a base of $8 a month or $16 a month.

That earlier experience might suggest why Netflix believes a price increase of one or two dollars, applied only to new customers initially, and to all customers eventually, will not be detrimental.

Though Netflix took an immediate hit of about a million customers in the wake of the big packaging change in 2011, net customer additions have recovered to the point that the long-term impact seems nil to non-existent.

In its first quarter of 2014, Netflix added four million net new streaming subscribers, up from about three million steaming customers, year over year.

Netflix gained 2.25 million net new U.S. subscribers and 1.75 million international subscribers, for a total of 48 million global members, including 35.7 million in the United States.

IN 2013, about 30 million of those customers bought streaming plans, compared to about 7.5 million customers on DVD rental plans.

But Netflix is growing, arguably a result of providing a reasonable price-value relationship, and plans what might be considered modest price increases.

As a rule of thumb, raising prices for a product people want will tend to depress volumes purchased.

But consumer appetite for video entertainment tends to suggest value is high enough, in most cases, to overcome price resistance.

At least, that is what one historically would have predicted, given virtually annual price increases for cable TV, satellite TV and telco TV subscriptions.

Netflix and Amazon Prime might find similar results, this time around.

Would Verizon Recover its Cost of Capital if it Built Out FiOS Across the Rest of its Footprint?

Verizon has capped its FiOS deployments to about 19 million homes passed, enough network to reach about 70 percent of locations served by Verizon’s fixed network. Obviously, that means 30 percent of the network never will be upgraded for FiOS.

That is certain to raise hackles in some quarters. But a reasonable person might conclude that the additional investment, at current costs, revenues and adoption rates, might not recover its costs of capital.

Other companies, without Verizon's legacy cost structure, might have an easier time of it. But few would likely be able to compete against both Verizon, a cable competitor, the satellite video providers and any other ISPs that decided to enter specfic markets.

Is that a gamble? Certainly. It means Verizon will continue to lose market share to cable TV and possibly other ISPs over time, as Verizon is unable to offer equivalent speeds as its key competitors, and also is unable to compete fully in the video subscription business, at least using its fixed network.

But Verizon is betting that capital invested elsewhere, in mobile assets and services, and possibly at some point in acquisitions, will produce a higher financial return than building FiOS to reach another 20 percent or so of its installed base of fixed network customers.

The cost and revenue implications of competitive markets are the reason for the caution. Any extension of FiOS would lead to stranded assets that could represent as much as half of the access network investment.

The reason is simply that FiOS is unlikely to attain long-term penetration rates in excess of much more than 40 percent, either for Internet access or video services, where it operates.

FiOS Internet penetration was 39.5 percent at the end of fourth-quarter 2013, meaning that Verizon was able to sell a high speed connection to about four homes out of 10 it passes.

FiOS video penetration was 35 percent. In other words, Verizon also could sell a subscription video service to 3.5 out of every 10 homes it passes. For the most part, FiOS customers buy two or three services, with triple-play packages seemingly most popular.

The FiOS network passed 18.6 million premises by year-end 2013. Perhaps 68 percent of FiOS customers buy a triple-play service. Most of the rest likely buy a two-product bundle of Internet access and video.

That might imply FiOS overall penetration of about 50 percent (assuming 90 percent of FiOS customers buy a dual-play or triple-play service) while about 10 percent of households only buy a single service.

For the sake of argument, assume Verizon gets a long-term, sustainable penetration rate of 50 percent. On any new FiOS builds, that implies, at a network cost of $750 per home, a network cost of $1,500 per customer, plus about $600 to install a drop.

In a typical 100-home neighborhood, that suggests network investment of about $75,000 and drop install costs of about $30,000, for a combined per-customer cost of about $105,000.

Assume that 70 percent of the FiOS customer homes generate about $150 a month in revenue, some 20 percent generate $100 a month and about 10 percent generate $50 a month worth of revenue.

That works out to about $63,000 in annual triple-play revenue; $12,000 in dual-play revenue and about $3,000 in annual single-play revenue, for total gross revenue of $78,000.

Assume operating cost of about $46,800 (assuming gross margin is about 40 percent). That would suggest net revenues (before dividends) of about $31,200.

Assuming half of net revenues has to be reserved for dividend payments, That might imply just $15,600 in profits from that 100-home neighborhood. Even if Verizon had no interest payments, it might take nearly seven years to reach breakeven.

Over a 10-year period, that further implies profits of about $4,680 or perhaps four percent annually. The issue is whether that actually covers Verizon’s cost of capital. If actual 10-year profits are anywhere close to this simple analysis, it isn’t clear the investment makes sense.

Cable TV Becoming the Primary Facilities-Based Fixed Network Strategy for Mobile Operators

It is not yet a universal truism that a fixed network services provider “must” own mobile assets. It is not yet firmly established that a mobile service provider likewise must own fixed network assets.

Nor is it yet clear that untethered access--in addition to mobile access--can provide enough value to replicate the value of mobile asset ownership.

But in some Western European markets, ownership of fixed broadband assets and mobile assets is the clear strategic direction. And while incumbents continue to rely on legacy telco access network assets, attackers increasingly are turning to use of cable TV networks to compete on a facilities-based basis.

Larger attackers find that an attractive approach for several reasons. As it turns out, the cost of upgrading a cable TV network, which is, by definition, a broadband network, arguably is less than the cost of upgrading a telco network for faster Internet access speeds.

Also, operating costs for cable TV networks typically are less than for competing telco networks. Also, video entertainment revenues are growing, while voice revenues shrink. And video entertainment has emerged as the second most valuable service for a fixed network, after high speed access.

Also, control over a network provides strategic advantages, in terms of controlling costs and offering greater opportunities to create differentiated retail packages, compared to a wholesale approach based on use of a wholesale network and offer.

Also, in some cases cable TV assets might not carry wholesale obligations that likewise help a service provider maintain distinctiveness and uniqueness in the market.

Some indications of the new strategy, namely ownership of mobile and fixed assets, and often cable TV plus mobile assets, are recent acquisitions by leading Western European service providers.

Spain’s Telefonica is offering 725 million euros ($1 billion) for a controlling stake in Spain's pay-per-view TV operator, Digital Plus. Telefonica already owns 22 percent of Digital Plus.

Telefonica wants to buy the 56 percent stake in Digital Plus in the hands of Promotora de Informaciones S.A., or PRISA, owner of Spain*s daily El Pais and the Cadena SER radio network.

Vodafone, meanwhile, recently purchased Grupo Corporativo Ono, the largest cable TV provider in Portugal.

BT, which had divested all its mobile assets, is re-entering the mobile (untethered access) business, using a strategy that is similar in essence to the way U.S. cable TV operators are assembling widespread Wi-Fi networks, hoping to create “untethered” platforms that can wholly or, in part, support full mobile operations.

Vodafone, Telefonica, Orange and Deutsche Telekom own both mobile and fixed network assets.

And both Telefonica and Vodafone are acquiring--or perhaps thinking about acquiring--more scale in fixed networks, perhaps ironically buying cable TV networks, not other telecom access networks.

You might therefore ascertain that the strategy is “fixed broadband plus mobile,” with video entertainment playing a key role. For fixed network operators, video has emerged as the key complement to high speed access, but also a key means of providing backhaul of mobile Internet traffic.

For mobile networks, video already is playing a key role in driving mobile Internet access revenue, while fixed networks complement mobile infrastructure and add a key facilities-based way to increase product scope.

Google Fiber is Destroying its Competitors

Google Fiber has captured 75 percent share of high speed access homes it passes in certain medium-to-high income Kansas City neighborhoods, according to Bernstein Research. But even in the lower-income neighborhood surveyed, adoption of Google Fiber’s paid service seems to have reached 27 percent.

Should results such as those persist, Bernstein Research predicts that Google Fiber could attain and hold market share of perhaps 50 percent for its paid service, and about 10 percent penetration of its free service, within three to four years.

That would prove a difficult challenge for cable and telco Internet access and video service providers competing with Google Fiber, as it would imply that cable and telco ISPs collectively would have less than 50 percent share of high speed access market share.

In many markets, cable providers have 58 percent share, while telcos have 42 percent share. The Bernstein research also suggests Google Fiber quickly has grabbed seven percent to 15 percent video entertainment market share as well.

That implies cable could dip as low as 29 percent high speed access share in Google Fiber markets, while telcos could drop to 21 percent share. In addition, it is conceivable that cable TV and telco providers also could face a loss of perhaps 20 percent video entertainment market share as well.

In Wornall Homestead, the highest household median income neighborhood ($116,000 average household income) 83 percent of respondents were buying Google Fiber service.

Of those customers, 15 percent of homes were buying the $120 a month high speed access plus video subscription package.

About 53 percent opted for the $70 a month gigabit access service.

Also, some 15 percent had chosen to use the free 5 Mbps Internet access service.

In Community College, the neighborhood with the lowest household median income neighborhood ($24,000), 27 percent of homes were buying Google Fiber service.

About seven percent were buying the video-plus-Internet access package.

Some 19 percent have bought the 1 Gbps access service. Also, about seven percent of homes opted for the free access service.

In other potentially bad news for cable and telco competitors, all of the Google Fiber users indicated they would not buy a rival gigabit access service, presumably even when the rival service was offered at the same price as Google Fiber.

For some years, suppliers of high speed access service at 50 Mbps or 100 Mbps have encountered some resistance to such offers.

Google Fiber shows that the issue is the perception of value, compared to price. Google Fiber has not had similar resistance to a 1-Gbps service offered at $70 a month, less than most other ISPs had charged for the 50-Mbps services.

Should Google Fiber or other fixed network suppliers decide to build in a wider range of U.S. markets, both telcos and cable TV companies would face new pressures, including higher capital expense to match Google Fiber speeds, plus a new pricing umbrella that could drive prices of all slower speed offers downward.

That would create new pressures to reduce operating costs, as the option of raising prices to recover the bandwidth upgrades would be limited to impossible.

Observers will simply note that Google’s overall strategy has been to drive both device and Internet access prices lower, ensuring that virtually everybody uses Internet access, all the time, as that drives Google’s ad-supported application revenue model.

And Google Fiber is expanding its footprint.

Project Loon a Wholesale Provider to Mobile Companies?

Will Google become a wholesale provider of transmission infrastructure to mobile service providers in developing markets in the global south? It appears possible that could happen. 

Google's Project Loon, testing use of steerable balloons to provider Internet access across the global south, is looking at ways to lease its transmission platform to mobile service providers, as the balloons pass over areas those mobile service providers want to serve, in various countries. 

The advantage to mobile service providers is the new way to reach customers in areas not presently reached directly by mobile facilities. 

But wholesale also solves a significant problem Project Loon faces, namely access to enough spectrum, above each country, to supply reasonable amounts of Internet access. And that is a matter of how much spectrum Project Loon might have to work with.

Working as a wholesale provider of capacity to licensed mobile service providers would solve the spectrum access problem, in large part, while also potentially giving mobile service providers a fast way to create Long Term Evolution capacity, for example, in isolated regions. 

In principle, the balloon capacity also could be used as backhaul to mobile towers as well. 

U.S. Mobile Marketing War Finally Hits Verizon

It appears the U.S. mobile marketing war finally has caught up with Verizon Wireless. In fact, Verizon Wireless actually lost net contract customers for the first time in the first quarter of 2014.

Though mobile revenue was strong in the first quarter of 2014, Verizon Wireless also saw a sharp fall off in net new account activations, with most of the damage coming from feature phone and 3G accounts. One might speculate that most of those losses were to AT&T and T-Mobile US.

In fact, Verizon actually lost postpaid contract customers in the quarter, after gaining 1.6 million net postpaid accounts in the fourth quarter of 2013.

And though Verizon insists it will be “disciplined” in its approach to pricing and packaging attacks, Verizon already has started to respond, offering service discounts to customers who either buy a new device at full price or who bring their own device.

Despite the falloff in net subscriber gains, Verizon Wireless service revenue grew 7.5 percent, with profit margins up to 52.1 percent.

Total mobile segment revenues grew to $20.9 billion, up 6.9 percent.

Retail postpaid churn was 1.07 percent, up slightly, year over year, Verizon says.

Still, it is difficult to determine precisely how mobile phone share is changing in the U.S. market, in large part because a vast majority of actual new accounts in the market are connections of tablets, rather than phones.

But T-Mobile US is the clear winner in phone account market share.

Sprint and Verizon actually lost postpaid phone accounts in the first quarter of 2014, while AT&T gained about 312,000 net postpaid phone accounts.

T-Mobile US gained a net total of 1.8 million branded new accounts, including branded postpaid net additions of over 1.3 million. Only about 67,000 of those net adds were tablet connections. So T-Mobile US is the one service provider clearly gaining phone accounts.

In the first quarter of 2014, for example, Verizon Wireless, which had added more than two million net accounts in the fourth quarter of 2013, experienced a huge slowdown, adding just 539,000 net new accounts.

But note, Verizon actually lost 138,000 monthly postpaid phone customers in the first quarter. In other words, all of Verizon’s growth came from tablets, not phones.

AT&T gained about 625,000 net new postpaid accounts, of which about 313,000 were tablet connections.

The point is that account growth in the overall market was in the first quarter of 2014 driven by just two trends: T-Mobile phone gains and tablet connection gains at Verizon, AT&T and Sprint.

T-Mobile US, and to a lesser extent AT&T, were taking share of phone accounts while Verizon and Sprint were losing share.

To the extent there was net growth of subscribers at Verizon, it was because of tablet connections.

That suggests the T-Mobile US marketing attack is working, and that even Verizon, which had hoped to avoid losses, now has to react, as it also is losing phone market share.

The complicating factor is that two separate trends have to be separated, namely market share shifts in the crucial postpaid phone segment, as well as the growing connected tablet trend. “Net addition” trends, in other words, will have to be separated into phone and tablet accounts, to judge what is happening in terms of service provider market share.

That also applies to T-Mobile US expectations about its own market share growth. T-Mobile US CEO John Legere has suggested T-Mobile US, with 49 million customers, could reach 75 million subscribers in 12 months.  

That would require adding about 26 million net new subscribers, about 6.5 million a quarter, something no mobile service provider has done since perhaps 2008.

Ignoring for the moment prepaid subscriber accounts or average revenue per account or average revenue per user, Verizon has something more than 95 million postpaid contract accounts.

AT&T has more than 72 million. Sprint has about 30 million customers, while T-Mobile US serves something more than 22 million postpaid accounts.

But T-Mobile US serves as many as 47 million accounts, including prepaid accounts.

In the second quarter of 2013, Verizon had more than 118 million total subscriptions in service, while AT&T had nearly 108 million. Sprint had more than 53 million.

Were T-Mobile US to even approach 75 million total accounts, it is likely that gains would be driven by prepaid and tablet net new additions.

On the other hand, if current net additions trends continue, T-Mobile will pass Sprint, for the first time, to take the third position for U.S. mobile market share, within a year.

But mobile share increasingly is not the same thing as phone postpaid accounts, phone accounts including both postpaid and prepaid accounts. And that means future analysis of U.S. mobile market share will have to pay attention to phone and tablet accounts, in addition to postpaid and prepaid accounts.

Those changes in device net adds will have revenue per device implications. There always is an important difference between postpaid and prepaid accounts. Now it also appears net subscriber growth is being driven by tablets, not phones.

That is significant because average revenue per device is going to be lower than if the new additions were phone accounts.

So far, T-Mobile US subscriber gains have not seemed to dent net growth at AT&T, but principally because net additions are driven by tablet connections.

It is likely AT&T has been losing phone subs to T-Mobile US. Only in the first quarter of 2014 does T-Mobile US seem to have taken subscribers from Verizon.