Smartphones – The second derivative.

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Gap between ecosystem and hardware to increase this year. 

• As the slowdown in the smartphone market is more severe than even I had expected, it is Xiaomi that is looking like it is in real trouble.

Smartphone and ecosystem

• Q1 16A smartphone shipments look they have been flat or declined as much as 3% to around 340m units compared to 344m units in Q1 15A.
• This is below RFM’s forecast of 1% growth and substantially below that which I believe most commentators and the technology industry were expecting.
• The problem with the flattening of the market is that handset makers will have to fight even harder to find growth resulting in even greater pricing pressure.
• This means that in revenue terms the handset market could decline by 5-10% this year.
• This is great for consumers and for the ecosystem companies that want smartphones in the hands of as many users as possible, but for the hardware makers it is disastrous.
• All handset makers with the exception of Samsung and Apple are barely breaking even and this added pressure could push more of them into loss making territory.
• Consequently, I expect that this year will see an acceleration of the shakeout as the smaller companies realise that they have no hope of ever making a decent return by making commodity Android handsets.
• This further increases my preference for the ecosystem companies as their addressable markets will keep growing despite the stagnation in the handset market.
• The addressable market for an ecosystem is smartphone users which RFM forecasts will grow by 14% this year to 2.82bn users from 2.46bn at the end of 2015.
• This is how the likes of Google, Facebook, Baidu, Tencent and so on will be able to post good growth this year despite the hardships being endured by hardware.

Xiaomi

• The two exceptions to this are Apple and Xiaomi both of which have decided to monetise their ecosystem by selling hardware.
• However, it is there that the similarity ends as despite its growth issues, Apple is still fantastically profitable.
• Xiaomi on the hand is not and this is the third quarter in a row where it has lost market share.
• To add insult to injury it also no longer number 1 in its home market China having been overtaken by both a resurgent Huawei and Oppo.
• This leads me to believe that Xiaomi has no money to invest in its ecosystem which will in it falling further behind Baidu, Tencent and Alibaba and even China Mobile.
• For Xiaomi 2015 was a year that it grew, but not as much as it has promised, while 2016 is looking like one where revenues could decline as much as 10%.
• For a company that last raised money at $46bn on the promise of very rapid growth, this a dreadful outcome as Xiaomi badly needs to invest in its ecosystem, has no money to do so and will have great difficulty in raising any more.
• To compound its problems it also appears that usage of its ecosystem is waning (see here) which means that the loyalty of its users to its devices may also be in decline.
• This will further hamper profitability making the outlook for Xiaomi very difficult indeed.
• I continue to believe that any investor that can offload his shares in Xiaomi at a valuation of $27bn will be doing very well indeed.