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Price Showdown

I bought my first personal computer 20 years ago, paying about $1,900 for what has turned into an antique. Last week, Best Buy had laptops with more than 1,000 times the processing power and storage capacity of my first PC available for $300. And that wasn't a special price for Black Friday. You can still get so-called hot deals online for a wide range of products.

But you probably knew this already. And this blog isn't about hot deals. It is about how an escalating pricing war between established OEMs and rising manufacturers is forcing companies to make significant changes to their operations, including their definition of acceptable margins, supplier expectations, manufacturing options, and marketing strategies.

Pricing is certainly undergoing a fundamental change in the electronics and IT industries. Amazon's Kindle clearly shows how the tablet PC market is being commoditized. Companies have to offer better pricing than rivals, especially in the savagely competitive consumer electronics market. Today's buyers have grown accustomed to seasonal price cuts on advanced products. They want bargain prices, not on yesterday's hot devices, but on the newer, faster, and better products with more functionalities.

More importantly for electronics makers and the extended supply chain, the pricing pressure is pitching established players against small, hungry rivals. That trend is not in the interests of the top companies favored by many investors. While analysts, shareholders, and reporters continue to fawn over the likes of {complink 379|Apple Inc.}, the crowds you see at today's retail outlets have a wider range of products to choose from. And branding is no longer the most important factor in their selections.

Again, I'd like to share a recent experience at my local Best Buy. The store was packed last Saturday afternoon when I stopped by for a peek at the holiday offerings. Potential buyers were concentrated in the tablet, smartphone, and laptop section. A smaller but still sizable group was in the gaming section. I was dazzled by the range of products on display, but no single manufacturer could be said to be dominant. In fact, the Apple section at this particular store had fewer people than I had noticed in the past, and it wasn't too long before an employee explained why.

Yes, Apple's products are still flying off the shelves, as some have reported, but there's a dent in the story that is not being captured by recent headlines, which instead say Apple is still the company to beat in its market space. I don't doubt the positive conclusions about Apple's, but I believe a major change is taking place in its market.

Here's a sampling of the headlines:

These stories gloss over the reality on the ground. At the Best Buy, Apple's stand had fewer customers than the broader section that had products from Acer, Samsung, Motorola Mobility, HTC, and a bunch of relatively unknown manufacturers. There were tablets of various sizes on offer from less than $200 to $549, and many of them were considered viable alternatives to the more expensive iPad.

“People are asking why they should pay $200 to $300 more for products that perform the same functions,” said a Best Buy employee.

Again, this blog is not about Apple's staying power and whether it is going to lose some of its market share. I believe that will invariably happen, since it's difficult for Apple to maintain its estimated 70 percent share in the tablet market. However, as rivals jostle for market share, they are also pushing the technology envelope and seeking pricing advantages in ways that will hurt everyone. In a previous blog, I pointed out that the companies that will be successful at snatching market share from Apple will have to be ready to accept lower margins for the same products. (See: Apple Can Be Beaten.)

This is already happening. It appears many OEMs have come to a similar conclusion and are driving down prices to gain market share. These companies are finding new ways to reduce total overhead, accepting lower margins, and expanding operations into new market segments to benefit from higher-volume shipments.

Here are the questions this development has raised in my mind as the process accelerates:

Who exactly is being forced to swallow an even bigger portion of the pricing concessions in the supply chain? Are OEMs pushing component vendors too hard? Is the already wafer-thin margin at contract manufacturers being whittled down even further? Are employees getting fewer raises and working harder, or is the reduced pricing simply a benefit of improved productivity from further technology adoption, such as the increased use of robots in the assembly process by {complink 2125|Foxconn Electronics Inc.}and other companies? How far we can push the pricing envelope before something snaps in the supply chain?

Finally, who will be standing when the carnage is over?

28 comments on “Price Showdown

  1. Barbara Jorgensen
    November 29, 2011

    Great blog, and I think the answer is “all of the above.” I have to think, though, that reducing overhead has to play a big role in the price wars. How can Amazon continue to sell its products at a loss? If teardown analyses are correct, the original Kindle and the Fire cost more to manufacture than what they are selling for. That implies that it is Amazon that's taking the hit, not the EMS or componetn makers.

  2. Ms. Daisy
    November 29, 2011

    @ Barbara, how long can Amazon do this and at what cost?

  3. Nemos
    November 29, 2011

    As long as their exist customers like me, I suppose, I have spent on Amazon more than a 5000 Euros. {come on on Amazon sent me a little gift for Christmas}

  4. Tcat
    November 29, 2011

    There are actually 2 different BOM estimates that conflict enough to prove/refute the Kindle +/- margin. And the bottom line is: razor thin, either way.

    I think the Holiday Season '11 launch show both Kindle Fire and iPad with brisk sales.

    So it aglains with the crystal ball nature of this piece that the Race To The Bottom is afoot.

     

  5. bolaji ojo
    November 29, 2011

    Barbara, Amazon is selling the Kindle Fire at a loss, true, but the company doesn't believe it's a losing strategy. With each sale of the Kindle, Amazon really gets implanted in the consumer's mind. I tried out a Kindle in a store and knew I didn't want it. The device is a portal for Amazon, opening the door to the products the company sells. If you already buy from Amazon the Kindle will get you properly hooked. If you don't already but get a Kindle, you'll get hooked somehow.

    The company will lose on each Kindle sale but overall will win on the sale of its other products. And now, with the Kindle, you don't have to fire up a web browser or reboot your computer to get on Amazon. Just turn on the Kindle. Brilliant!

  6. SunitaT
    November 29, 2011

    Who exactly is being forced to swallow an even bigger portion of the pricing concessions in the supply chain?

    @Bolaji, thanks for the article. Do you think this pricing concession is affecting the money that is entering the R&D as well, because if the investors don't get proper ROI on their investment because of this price concession they will be hesitant  to invest further in future.

     

  7. SunitaT
    November 29, 2011

    That implies that it is Amazon that's taking the hit, not the EMS or componetn makers.

    @Barbara, isn't it true that Amazon is making money by selling content rather than the tablet itself ?

  8. _hm
    November 29, 2011

    This is very good trend for consumers. I wish this trend comes to service provider. They charge unusually high and almost exploit cconsumers.

     

  9. bolaji ojo
    November 29, 2011

    Ms. Daisy, Amazon could give away a Kindle per customer and it still won't regret the decision. The Kindle is a profit driver and not the profit maker itself. By that I mean the Kindle is the Coach that gets the gambler to casino land. Room and board may be free but you'll exit with an empty pocket.

    Amazon is selling the Kindle below cost to sell other products and the device is a money generator for the company. It lets consumers buy Amazon products anywhere and anytime. I had written in the past that the tablet should be given away, much like many wireless service providers give away free phones. Today, it's free but over the life of the obligatory two-year contract, the customer will pay for more than the “free” phone.

  10. Damilare
    November 29, 2011

    I agree with you barbara. OEMs do all they can to gain market shares. Reducing manufacturing cost, outsourcing, ensuring they get best deals from component vendors and making sure they set lower and affordable prices for customers.

  11. bolaji ojo
    November 29, 2011

    Tirlapur, It's inevitable that the downward pricing pressure would impact R&D as well as other selling, general and administrative expenses in some ways. I can see several impacts on R&D, including negative and positive. On the positive side, companies have to increase their R&D budget to meet rising demand for increased functionalities and to differentiate their products. In consumer electronics, it is now expected for companies to introduce new devices almost every six months. Without such upgrades, consumers feel the manufacturer is behind the innovation curve.

    On the negative side, it is likely that a situation of reduced pricing power will force companies to be more selective in spending R&D funds. This could impose restrictions on the funding of innovations that may not translate quickly into a viable product. Any long term R&D spending would have to show promise of resulting in a breakaway product. How many of these research and development ideas get to become market leading products?

  12. electronics862
    November 29, 2011

    I agree with the point you are making Apple won't be stand top for long run as there rivals are popping up with lower prices with the same configured products. There is a way out still if Apple also come up with some business strategies by lowering there prices, I know it the start Apples won't see the profits which they are having now but still they will continue there market share. 

  13. DataCrunch
    November 29, 2011

    The hardware manufacturers that don’t have some sort of recurring revenue stream may not be able to keep up in next few years and device pricing gets squeezed.  Apple and Amazon are to some some extent following the business model of the telcos; Lose on the device sale, but make it up on the data services, apps, etc.   It’s basically the Gillette formula, in which you give away the razor, but charge on going for the razor blades.

  14. prabhakar_deosthali
    November 30, 2011

    I agree with dave that hardware is becoimng cheap and the costs are recovered from the services. So pssibly this is done without squeezing the components costs but by reducing the margins on the finished products.  This revenue model is possible only for those companies who have their captive services on offer.

  15. SunitaT
    November 30, 2011

    On the positive side, companies have to increase their R&D budget to meet rising demand for increased functionalities and to differentiate their products.

    @Bolaji, very true. Healthy competition is always good because it forces companies to come up with out of box ideas. Moreover companies who innovate new products,  always have first move advantage.

  16. jbond
    November 30, 2011

    At this point in the game, Amazon is going head to head against Apple and should win a share of the market. Apple has always priced their equipment higher making a sizable profit, and then making even more money with content through ITunes. Amazon is selling their tablets at a loss and making up for it with content. They are gaining customers with a nice selection of downloadable content with easy access to Amazon.

  17. Anne
    November 30, 2011

    Why paying more for products that can perform the same functions?  Same question we asked last Saturday at Best Buy when my hubby and I went to get an LED Smart TV with internet connectivity.  We had offer of popular brands like Sony, Samsung, LG, etc but at higher price and we chosed to buy Insiginia of the same size, same specifications, same functions, and Energy Star qualified like popular brands at a cheaper price.

  18. Anne
    November 30, 2011

    It is the consumers that determine which brand has the best of market share, and we have come to realise that a brandcount no more.  I agree that if other products can give what Apple has in specification, features and performance at a lower price than Apple, Apple would loose their baton in the market share.

  19. Barbara Jorgensen
    November 30, 2011

    @tirlapur–I'm certain that's right–the content is where Amazon makes money. As Bolaji pointed out, it's a brilliant strategy. At the same time, I sometimes chafe when I have to go to the iTunes store to get a song or a video. That doesn't mean it's a bad strategy–it just means that I'm a bit of a laggard in the digital media world 🙂

  20. Himanshugupta
    November 30, 2011

    @Anne, Apple do not sell electronic products but they sell their brand. Its like going to buy a car and you pay extra with the similar set of features for BWM or Mercedes than that of lets say GM or Toyota.

  21. bolaji ojo
    December 1, 2011

    Rich, I think I like your prose more than your poetry!

  22. Eldredge
    December 1, 2011

    @jbond  It will be interesting to see how Amazon and Apple fare against one another. Th eholidy season will be a good indicator.

  23. Ariella
    December 1, 2011

    @Rich you can try. But you know what they say: Don't quite your day job.

  24. jbond
    December 1, 2011

    @Eldredge,

    I think Amazon is going to have a great holiday season with the Kindle and Kindle Fire. The bigger question is going to be how much content do they sell to these buyers, especially since this is where they will make most of their profit. I don't know if those numbers will be released.

  25. Barbara Jorgensen
    December 1, 2011

    Yes, Rich, let us know how you make out with that…

    🙂

  26. Barbara Jorgensen
    December 1, 2011

    BTW Bolaji–you are a brave man entering a retail store anytime close to Black Friday. I checked out cyber Monday deals for kicks, and you are correct–you can get a lot of performance for your dollar these days. I've given up on waiting for Apple to discount its prices though. Even their after-Christmas prices seem high. I know this because my family has a lot of birthdays in January.

    Sigh…

  27. Eldredge
    December 2, 2011

    Good point – sales of the Kindle will only be an indicator of the potential for Amazon, but may lack clairty to profit for the endevour.

  28. bolaji ojo
    December 4, 2011

    Barbara, The culture Steve Jobs built did not permit heavy discounting. That culture had in the past run hard against market reality before Jobs' second coming. It still might.

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