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Amazon.com Is Right to Give Up on Smartphones

By Evan Niu, CFA – Aug 27, 2015 at 5:00PM

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The e-commerce giant is reportedly abandoning smartphone development. It's about time.

Source: Amazon.

Amazon.com's (AMZN -1.57%) foray into smartphones was always destined to fail. The e-commerce giant was simply way too late to the market. The Fire Phone didn't have any compelling differentiating features (Dynamic Perspective was little more than a novelty gimmick) while it stuck with conventional pricing, putting it in direct competition with entrenched rivals.

It's tempting to pin the blame on Jeff Bezos since he was reportedly "obsessed" with the Dynamic Perspective feature, which required incredible development resources and delayed the device for years, according to a former executive. It was hardly a surprise when Amazon took a $170 million inventory charge mere months later because the Fire Phone just wasn't selling.

The Wall Street Journal is now reporting that Amazon is giving up on Fire Phone. Despite the fact that it's only been a year, it's about time.

Fire Phone crashes and burns
Amazon has reportedly laid off dozens of engineers at its hardware division, Lab126. The company has also restructured Lab126, consolidating two hardware development departments into one. A large-screen tablet may also be shelved as well as a few other odd devices like an image projector. Amazon is still hard at work on other hardware projects, though, like a computer that can take orders via voice commands or a different spin on a 3D interface meant for a tablet.

The layoffs run counter to a Reuters report last year that Amazon was actually planning to dramatically expand its Lab126 head count over the next five years, even after it took the Fire Phone writedown and realized the product was a flop. For once in its life, Amazon seems averse to plunging an endless amount of money into a new initiative. Cost cutting is largely how Amazon crushed analyst estimates last quarter, posting a $92 million profit and sending shares soaring.

What about tablets?
Once upon a time, the Kindle Fire tablet was the best-selling Android tablet. Amazon was one of the first companies to launch a smaller tablet, but once it enjoyed demonstrable demand, the traditional players all jumped in. These days, Amazon's position in the tablet market has weakened significantly. IDC estimated that unit volumes in Q4 2014 fell by a whopping 70% to 1.7 million. Amazon disputed those figures, but naturally declined to provide any hard data to substantiate its claims. Amazon is not included in the top five vendors for IDC's Q2 2015 figures. Technically, Huawei and LG tied for fourth and fifth with 1.6 million units each.

The WSJ also says that Amazon's product mix is heavily skewed toward the lower-end versions of its e-readers and tablets, which also makes plenty of sense. But competition at the low end is particularly intense, while the iPad has a 76% share of the premium tablet market in the U.S. (priced at $200 or above). Amazon will likely shift development resources toward these lower-end tablets, while focusing on new product categories like Echo.

Why that's the right call
Strategically, Amazon's hardware has always served as a form of shopping portal, a gateway into Amazon Prime, if you will. For the longest time, Amazon's strategy was to sell hardware at cost and profit later when people purchased digital content or physical products. That's why Fire Phone's pricing was so Un-Amazon because the company was hoping to profit up front (and later on).

If the value in Amazon's hardware lies in its ability to sell more stuff, then first-party smartphones and tablets are decidedly not the best use of developmental resources. People already have smartphones and tablets with Amazon's app loaded on them, so third-party devices are already shopping portals. Instead, new categories and form factors are where the real opportunity lies, such as the $5 Dash buttons or Echo or any other type of centralized order-taking machine.

These types of hardware products are true differentiators that also support the core e-commerce business, and we all know how much Bezos hates "me-too" devices.

Evan Niu, CFA has no position in any stocks mentioned. The Motley Fool owns and recommends Amazon.com. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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