Commoditization and Leverage

When a technology product is brought to market, it is typically the result of several partners working together.  For instance, an Android phone is the result of companies like HTC or Samsung productizing Google’s underlying mobile operating system platform and partnering with mobile carriers such as AT&T and Verizon who use their networks and stores to proliferate product sales to end users.

Android now accounts for the majority of the sales for the smart phone market, but the various Android hardware companies combined have far less profitability compared to Apple. Where Apple has been able to improve their strong financial fundamentals and profitability along with their legendary revenue growth, the Android smart phone vendors in general have seen their gross margins become increasingly under pressure.

So, the question is how can Apple protect their profitability and financial fundamentals when Android hardware vendors cannot?  It is because embedded in Apple’s business strategy is great leverage and protection against commoditization.

First, let’s take a deeper look at the Android world.  Android has evolved into a powerful technology platform.  Unfortunately, for the hardware companies, none of them own the platform.  As a hardware vendor, this is a big problem because if everyone has access to the same technology, there is by definition no competitive advantage.  And the result is inevitable commoditization — where gross margins become pressured as competitors are forced to compete on price.

When hardware vendors become commoditized, the balance of power shifts to the sales enablers.  In this case, Android hardware vendors become increasingly at the mercy of their carrier partners.  From a carrier point of view, hardware commoditization is great as it provides leverage to pit hardware vendors against each other and allows the carriers to differentiate themselves on the basis of their own value, such as network quality.  It also allows the carrier to “own” the end user relationship.  “Owning” the end-user relationship can be powerful as it creates long-term brand loyalty.

In sharp contrast, what Apple has been able to do in the smart phone market is remarkable.  Not only have they been able to own their technology platform and create significant competitive advantage, they have also succeeded in “owning” the end user through great brand marketing and use of their stores.  Correspondingly, they have commoditized the carriers.  Apple’s strategy has not only allowed them to maintain incredible profitability in the smart phone market, but by controlling the end-user relationship, they have also built a tremendously loyal user base they can leverage for future new technology market introductions.

On a side note — Recently, after watching Prometheus, I went back and watched the original Alien movie.  At one point, the crew of the ship turns to the Android Ash for an explanation for what the Alien is.  In which he says:

Ash: “You still don’t understand what you’re dealing with, do you? A Perfect Organism.”

Google has Android, but Apple just might be the Alien.  In terms of defensibility and leverage, the business model is perfection.

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