It’s quarterly earnings season, and while I don’t care much about differences in valuation multiples or whether a company beat EPS consensus by two cents a share – I’m a market analyst, not a financial analyst – quarterly earnings are a great place to find data indicating how the market is changing. Sometimes the best information is buried in the balance sheet and requires a bit of detective work and familiarity with how the company accounts for its products, divisions, tax strategy, and currency fluctuations. And sometimes you get lucky and the press release is all you need.
In AT&T’s press release announcing its second quarter 2011 earnings, the following bullet point appeared:
• Best-ever second-quarter smartphone sales of 5.6 million; nearly 70 percent of total postpaid sales were smartphones.
[aquote]Yes, it's amazing, Apple is blowing the doors off of everyone[/aquote]
Most of the analysis I saw about AT&T’s earnings related to how many iPhones were sold (3.6 million) and, with some basic math, the revelation that the iPhone makes up 64% of AT&T’s smartphone sales (3.6m out of the 5.6m total). That certainly makes life interesting for Android licensees, Windows Phone 7 licensees, RIM, and HP, who are all fighting over the remaining 36%. Yes, it’s amazing, Apple is blowing the doors off of everyone, yadda yadda yadda. What I think it even more amazing is the second half of that bullet point: nearly 70 percent of total postpaid sales (i.e., phones bought with a two-year contract) were smartphones.
It comes as no shock to anyone that smartphone sales are rising – they have been for several years now. But 70%? That means nearly three out of every four people buying a phone with a contract at AT&T are willing to pay for a data plan. Until recently, the shares were reversed – only 30% of phones sold were smartphones. Admittedly, AT&T is a trailblazer here (other carriers also show huge gains in smartphone adoption, but not this large) and this only refers to the post-paid business (contracts, not prepaid), and not to the installed base overall (which is still a tiny bit under 50% - a stat that is buried farther down in the press release).
As I predicted, capped data and lower cost entry level data plans are opening the market to new users and driving smartphone sales. Some of AT&T’s lofty numbers are driven by its exclusive $49 iPhone, but, realistically, Verizon Wireless will get a “last year’s model” iPhone in time for this coming holiday season, too. It is clear that the majority of phones in the U.S. will soon be smartphones, and this leads to some interesting dynamics for vendors of featurephones and smartphones alike.
[aquote]Consumers buying a touchscreen phone for web browsing are already paying for a data plan[/aquote]
One effect is that carriers are shrinking the number of featurephones they offer in favor of more smartphones. Instead of multiple clamshells and a variety of touchscreen and QWERTY phones, carriers are offering just one or two of each. Touchscreen featurephones are less attractive now that real smartphones with better user interfaces are available at the same price and consumers better understand the value proposition that a touchscreen brings. In other words, consumers buying a touchscreen phone for web browsing are already paying for a data plan and will opt for a smartphone. There is still a segment of the market that cannot afford a data plan but still want a phone that looks like a smartphone, but carriers likely will not offer more than one model of this type.
Ironically, consolidation can ironically be a good thing for some vendors – less shelf space means that the featurephone volume goes to whichever phones and vendor remain. As this volume remains significant, vendors can be expected to fight hard to be the last one standing. Counter-intuitively, the situation also favors incumbent vendors like LG, Samsung, Kyocera, and Pantech over Chinese vendors such as Huawei and ZTE eager to break into the national carriers. How? Carriers are focusing on selling smartphones, not featurephones. In some cases, carriers may prefer to consolidate their featurephone business with vendors they are already comfortable with because they value lower support costs over small differences in handset cost. The flip side of this equation is that featurephone vendors must ensure that their quality control does not slip even slightly, as any problems with the few phones being offered will be magnified and could result in the vendor losing the account entirely.
Of course, featurephones will not go away completely any time soon. They remain attractive to segments of the market who cannot afford smartphones, can’t afford data plans, or prefer simplicity. Smartphones are too expensive for many buyers in emerging markets, and even Moore’s Law will not change that in the short term. Similarly, featurephones are still the only way to meet the needs of entry level prepaid phones in developed markets, where the devices are practically disposable. It is important to clarify that simplicity-seekers are not necessarily older demographics, nor only served by featurephones – the iPhone is extremely popular among older consumers as it is easy to navigate, has no menus to get lost in, and has an extremely large keypad.