Amazon's First Fire Phone Is Just a Test -- With Huge Long-Term Potential

This story originally written by Pascal-Emmanuel Gobry at CITEworld . Sign up for our free newsletter here.

One thing is true about Amazon (NASDAQ: AMZN  ) : it likes to surprise us.

My speculation about the Amazon Phone, a quasi-free phone that would come with an Amazon MVNO that could offer free data, was wrong. Instead, Amazon is coming out with a competitively priced but not cheap phone on a standard AT&T contract. Amazon's not (yet) reinventing the phone business model. But I have a hunch I might still be right in the long-term. Here's why.

The Fire Phone has a few bells and whistles, but the really important thing about it is a piece of software called Firefly. Firefly is a multimedia search engine that recognizes the world around you. Point your phone at a movie poster, or make it listen to a piece of music, and the phone will recognize it. Then, you can buy it from Amazon in one click.

As most people have now realized, this is Amazon's hardware strategy: Bring people into its entire ecosystem of content, services, and commerce to make it easier to buy from Amazon.

Firefly, more than the phone itself, is the new key plank in Amazon's plan to take over the world. Once people can point their phone at something they like and then buy it with one tap, that opens up a great business opportunity for Amazon. Having people have a device where they can do that on their person every waking hour is tremendously valuable.

But Amazon doesn't actually know how many more sales Firefly will lead to; it can guess, but there's no way to actually know until the software is actually in people's hands. And there's a good bet that Firefly will have some bugs right out of the gate, given how complicated visual search is -- the kind of bugs that can only be slowly discovered through interaction with the market and extensive usage. This is why Apple released Apple Maps as a beta, inferior product -- there was simply no way for a maps product to be even close to equal with Google Maps without having millions of people use it first.

So my hunch is that this Fire Phone is a test. By definition, a $199 phone with one carrier that, aside from Firefly, has nothing to knock the iPhone or the Galaxy out of the water, is addressed at a relatively small market. Amazon doesn't know how many incremental sales Firefly will drive, and it is already operating on razor-thin margins. It needs to improve the Firefly software. So it needs to get a phone in the market in a relatively cost-effective way to improve Firefly and find out how much money it makes.

Finding out how much money Firefly makes is important, because it means Amazon will then know by how much it can subsidize its phones. Amazon could make an educated guess for the Kindle Fire because it could find out something about people's tablet use habits. And if anything, Amazon's margins have shrunk since the Kindle Fire.

Firefly doesn't even have to be on an Amazon phone. Remember when Facebook came out with a "layer" for Android, an update for Android phones that gave the phones the look-and-feel of a Facebook phone without you having to actually buy a phone? The software flopped because it was badly designed, but the concept has legs. Want to update your regular phone into a Firefly phone? What if we throw in a music voucher and one year of free Amazon Prime, and put it on a banner at the top of the Amazon homepage?

This could have implications for the enterprise, too. Amazon is now a major enterprise IT firm through Amazon Web Services. How about an Amazon Cloud Phone for your employees that plays nice with AWS-based services, "thrown in" with your AWS contract, Mr. CIO? And it just so happens that the phone will have Firefly so that when your employees are off work if they see something they like they can buy it... And wouldn't one year free Prime subscription be a nice employee perk?

Make no mistake: the $199 Fire Phone is just a first step. I believe the long-term goal is still to have free, or quasi-free, phones, and perhaps even on a free, or quasi-free data plan, all subsidized by Amazon services and commerce. That would be a true game-changer.

Recall that the iPhone started off the same way -- while it had revolutionary features like a finger-optimized touch screen, it was expensive at $499 for a 4GB model or $599 for 5GB, ran only on one carrier (AT&T/Cingular), ran on the slower EDGE network (not 3G), and didn't have an app store. But Apple quickly dropped the price and improved the phone based on feedback, and the rest is history. 

Jeff Bezos is nothing if not a long-term thinker. The Fire Phone is just the beginning.

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