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Samsung's troubles start in China, but could end up global

Some say that knowing the cause of a problem is half of the battle. Looking at its letter to investors, it's hard not to think that the tech giant has missed a major cause of its troubles.
July 16, 2014
Gloomy skies over Hong Kong's harbor
Chris Zielecki Gloomy skies over Hong Kong’s harbor

Samsung is expecting a bad second quarter. In fact, it was so bad that, last week, the company felt the need to release a letter to its investors to prepare them before they read the earnings forecast. Among the problems Samsung mentioned in the letter are the increasing pressure from low-cost competitors, and the inventory buildup caused by waning demand for 3G smartphones in China as the country is switching to 4G.

These two points captured my attention. While China is now the world’s largest smartphone market, was China’s transition to 4G really the main cause why Samsung failed to sell enough entry-level and mid-range devices?

Recent reports show that, while Samsung is still the top dog in China, Xiaomi outsold it for the second time in April. Xiaomi has also sold considerably more phones in the first half of 2014 (26.1 million units) than throughout 2013 (18.7 million units). That’s a 271 percent growth in sales year on year.

According to Canalys, Xiaomi’s low-end line, the Redmi, made up 60 percent of its sales. More importantly, none of the current Xiaomi Redmi phones support 4G connectivity.

Some say that knowing the cause of a problem is half of the battle. Looking at its letter to investors, it’s hard not to think that the tech giant has missed a major cause of its troubles.

The value segment is changing, fast

When GigaOm’s Kevin Tofel told me last year that he was letting go of his prized 2007 Corvette for a Fiat 500 Abarth, I thought he’d lost his mind. Why would a performance enthusiast give up a 400 BHP monster for a small econobox that needs twice as much to hit 60 mph from a standstill?

His argument was that, while he loved the Vette’s performance, he rarely got to enjoy it. He only drove it around 2500 miles a year and the most he could get out of the car was to go 120 mph on fourth gear. The car still had two gears to go when he ran out of road to go any faster.

So he figured, why not go with something more economical, but with performance that could put a smile on his face more often?

Kevin’s argument above perfectly sums up today’s emerging market smartphone trends and the effect of the new breed of low-cost quality devices from companies like Xiaomi or Motorola.

Let me explain.

With models ranging from under $130 to $300, you'd expect the majority of Xiaomi’s customers to be people making minimum wage. That is wrong.

When Hugo Barra mentioned to me in an interview that one of the main reasons behind Xioami’s social-centric marketing is the fact that the company’s primary target are folks who are “tech savvy and internet active, people who read tech blogs, fluent on specs, and care about bang for the buck,” I have to admit, I was a bit skeptical.

With models ranging from under $130 to $300, you’d expect the majority of Xiaomi’s customers to be people making minimum wage.

However, recent numbers from Flurry prove that my skepticism was unfounded.

According to Flurry, the majority of Xiaomi users, by far, are “young business professionals who are likely to have college education.” The research firm adds that this fast-growing segment is one of the main growth engines of the Chinese economy, the second largest in the world.

Clearly this is a lucrative segment. These are the kind of people who use their phones for their advanced functions. People who are likely to spend money on their ecosystem of choice and influence their peers’ buying decisions.

So, how could folks who presumably earn multiple times the minimum wage be the primary consumers of a brand that focuses on value? Surely they could afford more expensive devices from established brands like Samsung or HTC if they wanted to.

The answer to the question is similar to the reason behind our friend Kevin’s decision to ditch the Corvette for the Fiat 500 Abarth.

Why spend more on something you’ll rarely enjoy, when there are options available for half the price, or less, that can put the same kind of grin on your face on a daily basis?

The wildly successful Xiaomi Mi 3

China today, the world tomorrow?

Xiaomi is not the only one currently attacking the market with experience-focused low-cost models. Motorola has been doing the same with the Moto G and the Moto E. We know that these two Motorola phones are hits in India, which is the world’s third largest and fastest growing smartphone market.

Considering that Motorola uses the same online-only approach to distribute its phones in India that Xiaomi uses in China, I have little doubt that if Flurry were to conduct similar research on Motorola buyers in India, the results would be similar.

Plus, with Xiaomi quickly expanding into high growth overseas markets and Android One devices looming on the horizon, what is now a China-specific trend may soon happen throughout the world.

Xiaomi broke into top 10 global with China sales alone
Counterpoint Xiaomi broke into top 10 global with its China sales alone

To continue the auto metaphor, this new breed of low-cost models are no longer the equivalent of some boring diesel Volkswagen Lupo. What phones like Xiaomi Redmi and Moto G are offering in the value segment is the mobile equivalent of a Fiat 500 Abarth or Golf GTi.

In short, products focused on providing a delightful experience, regardless of their price tags.

Samsung should not ignore this problem

This is what Samsung needs to realize. In the era of Moto G or the Xiaomi Redmi, phones like Galaxy Fame, Galaxy Core, or Galaxy Grand are no longer adequate. This is particularly true in developing markets, the only markets that maintain high growth rates these days.

To avoid missing quarterly targets, and potentially getting overlooked by the segment of users that drives growth in emerging markets, Samsung needs to change its approach to the value segment.

Samsung needs to stop making uninspiring low-cost products, and start building value phones that delight users instead of reminding them that they should’ve worked harder on a daily basis. A phone that won’t go out of date once a new Android version is released. A phone which could hold its head up high next to its bigger, more expensive brethren.

Basically, what Samsung needs is the smartphone equivalent of the Fiat 500 Abarth.