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Apple Has a Samsung Problem

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It seems that it wasn't all too long ago when Samsung (NASDAQOTH: SSNLF  ) was mocking smartphone leader Apple's (NASDAQ: AAPL  ) lines in its "next big thing" campaign. Samsung is a formidable -- and highly profitable -- player in the smartphone business with the broadest product lineup in the market. But it should be clear from Apple's recent upward guidance revision after excellent first-weekend sales of the iPhone 5s/5c that Apple's still got it. In fact, Apple's gold iPhone 5s is proving so popular that Samsung has reacted by hyping up a Galaxy S IV "Gold Edition." While this launch shouldn't trouble Apple's shareholders, Samsung itself should. 

Do not underestimate Samsung
Apple is the clear innovator in the smartphone space. Its innovations include a robust mix of sensible design decisions and a robust software ecosystem that has millions hooked. Samsung, on the other hand, is a juggernaut that is interested in only one thing: flooding the market with devices until it strikes -- excuse the pun -- gold. This strategy has proven particularly successful for Samsung, whose electronics division has seen its net income just about double over the last year.

The problem for Apple is that Samsung controls just about everything in the smartphone supply chain, including chip manufacturing, DRAM, displays, and more, meaning that it can compete quite effectively on price. In fact, Samsung currently builds Apple's A-series processors. While Apple currently plays in the high end and differentiates on providing a (subjectively) superior product and an ecosystem that many love, Samsung can brute-force cover every single price point and niche without batting an eye and still enjoy robust profitability.

Will smartphones continue to be highly profitable longer term?
Another issue that I see is that while Apple continues to own the high end of the smartphone space, it seems that, sooner or later, the smartphone business will end up looking exactly like the PC business. Apple, interestingly enough, is far and away the most profitable player in that space, but it is much more a niche player there than a mainstream, ultra-high-volume player. The big concern is that if Apple wants to remain a major player in the smartphone space, it will have to start competing more aggressively on price, and it's not clear that the company would do well in such an environment.

Further, while many of Apple's competitors are quick to adopt the latest technologies in their devices (such as NFC, 802.11ac Wi-Fi, more than 1GB of RAM), Apple is doing its best to trickle these new features out slowly. This is likely an attempt to keep costs down and gross margins as high as possible in what seems to be a difficult environment on the gross-margin side of things for all of the players here. Apple's recent guidance revision for the quarter to $37 billion in sales and 37% gross margins (at the high end of the initially guided range) is nice, but remember that in the year-ago period, Apple's gross margin sat at a much prettier 40%.

Samsung seems better suited to a commodity smartphone world
Apple's products are excellent and are best-of-class at the high end, but the writing is on the wall for the high end: It's stagnant at best and set to decline at worst. Samsung may not bring a truly innovative device in the same way that Apple's laser-focused engineers are able to in their yearly product launches, but it can sure flood the market with devices for every niche and every price point. That's why, despite a deep admiration for Apple, it's a difficult stock to recommend, even if the world recognizes that Samsung's Galaxy S IV "Gold Edition" is a blatant rip-off of an appealing characteristic of Apple's gorgeous gold iPhone 5s. 

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  • Report this Comment On September 27, 2013, at 8:23 PM, bobbydig wrote:

    Samsung problem in not Apple but Google. Once Samsung dumps Google, which is going to happen, then Apple and Google are in trouble.

    Samsung is no fool, they really don't need Google. Google innovates too slowly for the smartphone market. How old is their latest OS. Samsung, being the smart business they are make too much money off of Apple to piss them off.

    Now if Apple finds a new supply chain, Samsung is screwed.

  • Report this Comment On September 27, 2013, at 8:28 PM, zippero wrote:

    Samsung has a Chinese problem as Chinese Android makers replicate Samsung phones' specs and offer the same version of Android at less than half the cost. Samsung's losing share rapidly in China, while Apple gains because of 64-bit and Western brand image that can't be copied. Apple thanks all the Chinese Android phone makers for bringing Samsung down and leaving the high-end to Apple. 谢谢

  • Report this Comment On September 27, 2013, at 8:35 PM, zippero wrote:

    Apple's profits from selling iPhones and iPads alone exceed the combined yearly total profits of Microsoft and Google who sell their products to the low, middle, and high-ends. Not too shabby for a so-called “niche” high-end player.

  • Report this Comment On September 27, 2013, at 8:42 PM, zippero wrote:

    Apple makes more money by selling iPhones and iPads to the top 20% than all the Android makers make selling to the bottom 80% (zero profits). It also makes more from iPhones and iPads every year ($40 bil.) than Microsoft and Google's total combined annual net income ($30 bil.) from selling to both the top 20% and bottom 80%. Not too shabby for a "niche" player that sells only to the high-end. China's millionaires will outnumber N. America's next year, so Apple is correct to keep pursuing the high-end, which grows faster and is much more profitable than the low-end.

  • Report this Comment On September 27, 2013, at 9:18 PM, cazic99 wrote:

    And with Apple's massive cash, Apple can initiate a Hostile Take over of any company of the world, including Samsung should they wish.

  • Report this Comment On September 27, 2013, at 9:19 PM, cazic99 wrote:

    Samsung will be overrun by Chinese companies like Xiaomi as unlike Apple, Samsung is engaging in the Junk race to the bottom.

  • Report this Comment On September 27, 2013, at 9:21 PM, cazic99 wrote:

    Samsung is NOT PROFITABLE in the every niche products as they basically GIVE THEM AWAY. They are mostly profitable like Apple in the higher end Note and Galaxy series. So you need to get your facts straight.

  • Report this Comment On September 27, 2013, at 9:23 PM, cazic99 wrote:

    谢谢 (Thank you in Chinese) Xiaomi , ZTE and Huawei for engaging Samsung in China int he great junk race to the bottom

  • Report this Comment On September 27, 2013, at 9:53 PM, cazic99 wrote:

    Lots has been made about Apple losing share in emerging markets. But fact is, as Cook pointed out, the junk market is not what Apple is about or will be, ever.

    However, reports have come out that Samsung is GETTING DESTROYED by likes of Xiaomi, ZTE, Lenovo and Huawei in China and India.

    People are really choosing between Samsung and those Chinese makers and not Apple. People who want to buy Apple still buys it and people making choices are not making the choice Samsung or Apple but rather Samsung or X Chinese maker until I CAN AFFORD Apple.

    That is consistent with the huge craze over the 5S launch.

  • Report this Comment On September 27, 2013, at 10:24 PM, FreeRange1 wrote:

    This analysis is ridiculous and has no basis in fact. Move on...

  • Report this Comment On September 27, 2013, at 11:46 PM, Fiat500S wrote:

    While Samsung makes the guts of the iPhone5s, they make money everytime Apple sells a unit. Not sure how true the costs differentials were in another article I read, but the 5s costs $ 175 or so to manufacture. That means on a new contract $ 199 phone, Samsung is making most of the money on that iPhone5s.

    I thought Apple started the A series cpu to have control over their smartphone, not when they let Samsung make the cpu. Samsung has been around long enough to know how to read the blueprints on the A7 and understand how it works.

  • Report this Comment On September 28, 2013, at 12:14 AM, flybywire54 wrote:

    Samsung faces a big problem in China and India , where one can buy a local branded GS4 equivalent running on Android for half the price of the GS4 . Copycat works now against them . Unlike Apple and Nokia/Microsoft they don't have the western image of quality product and the protection of a proprietary OS . And now the fact that their phones and phablets can't travel because of Sim card issues forcing people to do expensive roaming is causing them to loose more market share . Tough luck Samsung.

  • Report this Comment On September 28, 2013, at 2:42 PM, zippero wrote:

    Samsung's components biz is only 1/4 the size of its smartphones biz, from which Samsung gets 70% of its profits. Chinese competition hurts Samsung on its cash-cow smartphones. Apple spends less than $200 on components to make a 5S and a 5C but charges $700. That's a 70% margin on the new iPhones. Apple's high-margin smartphones increase in China while Samsung's high-margin smartphone decrease, leaving Samsung with only the components biz. But even that isn't safe as China's government tells Chinese firms to displace Samsung's components biz. Samsung and Korea are both screwed. Sorry.

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