CCS Insight: Google, Microsoft and Samsung may follow Apple with vertical approach

John Jackson

We expect competitive conditions in the mobile computing market will drive technology suppliers toward a more wholesale embrace of vertically integrated business models. These models will encompass control of hardware, software, application development, service distribution and the user experience in general.

Apple and Samsung

Apple and Samsung Electronics have built their success on significantly different assets. Both make almost all their money and profit from the sale of hardware. But Apple is fundamentally a platform company that controls everything from the processors that power its mobile devices to the distribution of third-party digital content and services, to its own retail network. Apple's hardware sales and revenue would not exist in its current form without one or more of these elements.

Samsung, by contrast, is fundamentally a hardware company, at least for the time being. It has built its phenomenal success on the basis of outstanding product execution, economies of scale, highly effective marketing and branding campaigns, distribution and the ability to price strategically against smaller competitors at almost every price tier in every category.

Despite the dominance of its product-driven model, we believe Samsung sees its future as decidedly platform-centric. In our view, early 2013 will see Samsung's strategic investment in the Tizen platform emerge as perhaps the most critical element of its transformation. We believe that this shift will see Samsung reducing its reliance on Android as it builds its own operating system into its portfolio. Samsung's agenda will compete with Google's on a number of levels, particularly in the content and services domains.

Samsung faces significant risks if our scenario is valid. But we believe the company is prudently adapting its strategy in the face of fierce competition from Apple, but also in advance of more significant plays from Google, Microsoft, Amazon, Facebook and possibly others. If the company changes in the manner we have outlined and does so successfully, it will emerge with a far greater degree of vertical integration.

Platform-centric and product-centric players

Platform-centric competitive models can be contrasted with product-centric models. Apple, Google and Amazon offer examples of the former; LG Electronics, HTC, Huawei, Dell, Samsung and Lenovo are examples of the latter. As we have described, Samsung occupies a unique position among these companies.

Platform companies are a motley bunch. Amazon, Apple, Facebook, Google and Microsoft all make money in quite different ways. They share the common characteristics of being able to define, control, or heavily influence an operating system and adjacent layers. Although these powerful, well-capitalised companies are all different, it is clear that they and others intend to create and extract significant value within the mobile market currently dominated by Apple and Samsung.

The platform companies are all bringing different assets to bear, and we do not believe vertical strategies, including direct control of hardware, are appropriate for all of them. However, events such as Google's acquisition of Motorola Mobility, which hit the company's second-quarter profit margins, and Microsoft's announcement of the Surface tablet, which appears to have come as a very unpleasant surprise to Windows 8 licensees, sow uncertainty and tension. This leaves open questions, including:

  • In the wake of large-scale acquisitions and high-profile product announcements, how committed are platform companies to building up own-brand hardware businesses?
  • How much do their hardware products reflect conclusions about the need for vertically integrated strategies compared with other motives, such as the creation of target devices for developers and licensees?
  • If a platform provider has decided that some direct control of hardware is needed, what is the future of the traditional licensing model?

Microsoft and Google

It is unlikely that Google or Microsoft could challenge any of their major manufacturers in terms of scale, distribution or design. But value creation, and not necessarily a huge number of sales, is probably the objective of their recent tablet and streaming media forays, and in Google's case with its acquisition of Motorola Mobility.

We believe the answer to questions about the potential for a larger-scale embrace of vertically integrated strategies by platform-centric players, and therefore about the ultimate aim of hardware initiatives, lies in the value that either is capable of creating in the mobile market. This is perhaps more nuanced than it sounds.

For example, it is not clear if Microsoft's Windows Phone strategy will achieve sufficient scale in the near-to-medium term to justify Microsoft staying the course. Nor is it obvious that Windows 8, by far the more important asset for Microsoft in revenue-generating terms, will be as competitive and well-received as Microsoft and its partners hope.

There is a plausible scenario in which Microsoft is left with minor, small-scale or effectively no support for Windows Phone. This would be unacceptable to Microsoft. The Surface tablet may be a target device in the tradition of Google's Nexus programme, intended to animate manufacturers, most of which will be reluctant after being burned by failures with Android tablets.

But Microsoft's own-brand tablet may also be a precursor to a more wholesale embrace of own-brand hardware if the company decides that its traditional licensing model is delivering uncompetitive user experiences, value and market share compared with Apple and others. If Windows Phone does not achieve sufficient momentum in 2013, we expect to see a similar initiative to Surface in the smartphone space.

There are many reasons why Google would not dare to build up Motorola's device business, not least of which would be the damage Google's income statement would suffer from involvement in a low-margin hardware business. In addition, Motorola's brand, distribution network and design abilities could not be counted upon as sources of competitive advantage.

However, as in Microsoft's case, we believe there are plausible scenarios that could justify a more definitive move toward a vertical approach in the near term. We believe the foundation for this option is in place in Google's ownership of Motorola and, to a lesser extent, the appearance of the Nexus 7 tablet. If it happens, it will not be in dramatic fashion. Existing Android licensees may take offence, but sunk costs, inertia and the lack of alternatives mean they will not abandon the platform.

Competitive forces will determine how and when these strategies develop, but we believe significantly greater degrees of vertical integration by platform-centric competitors are inevitable in the near term. What is true for Samsung, if they are successful, is also likely to be true for Microsoft, Google, Amazon and others.

John Jackson is a veteran analyst specializing in mobile technologies. Additional areas of focus include semiconductor and infrastructure suppliers, and device manufacturing and distribution strategies. He can be reached at [email protected] and on Twitter at @hellojackson. A longer version of this article was published as part of CCS Insight's Hotline service. For more information please see www.ccsinsight.com.

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