The Amazon Smartphone

Rumors of an Amazon smartphone are too loud to be ignored

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Steven Cherry: Hi, this is Steven Cherry for IEEE Spectrum’s “Techwise Conversations.”

Apple’s third-quarter results were announced on July 24th. iPhone sales dropped to a mere 26 million units. That’s up from last year’s third quarter but way down from sales this past spring.

It’s been a brutal market for other phone makers as well. Nokia lost a billion dollars this spring. Microsoft, despite investing hundreds of millions in mobile versions of Windows, saw its market share drop by a tenth since January, which is pretty remarkable given that it was a paltry 5 percent at the beginning of the year. So why the heck would Amazon want to enter the smartphone business? Not that it has, yet, but the rumors that it will are loud and getting louder. Analysts are predicting everything from the release date (by Christmas) to the processor (a dual-core from Texas Instruments).

My guest today to sort fact from fiction, or at least realistic fiction from speculative fiction, is Carl Howe. He’s the vice president for data sciences research at the Yankee Group, a Boston-based analytical firm. Previously, he cofounded Blackfriars Communications, and before that, he was a principal analyst and research director at Forrester Research.

Carl, welcome to the podcast.

Carl Howe: It’s a pleasure to be here.

Steven Cherry: Let’s go through some of the rumors. “Amazon will partner with a company with an operating system, such as Nokia, HP, Microsoft, Google, or RIM, the maker of the Blackberry.” True or false?

Carl Howe: True. I don’t think anyone is really in a position to launch another operating system for smartphones in the foreseeable future. This is really a market that has matured very quickly, and at this point, it’s a lot cheaper just to buy your operating system or rent it, as the case may be, than it is to actually build it yourself.

Steven Cherry: So... “Amazon will partner with RIM.” True or false?

Carl Howe: I’m not seeing the RIM partnership, although that’s not out of the question. Research In Motion has told people that they are interested in getting more partners on their platform. That’s perhaps one of the more interesting twists on this entire story. That said, the trouble is that RIM’s real core of consumers is not consumers at all; it’s actually enterprises, and therefore that’s not such a great fit with Amazon’s customer base.

Steven Cherry: “Amazon will partner with Microsoft.” True or false?

Carl Howe: I think that’s a possibility but unlikely. Microsoft has already chosen their most famous manufacturer—and that’s Nokia—after they did that deal back in February. I don’t see that changing anytime soon, and I don’t think Amazon is really in the mood to play second fiddle.

Steven Cherry: “Amazon will partner with Hewlett-Packard.” True or false?

Carl Howe: That’s a tough one. I’m frankly not sure I see the synergy between Hewlett-Packard and Amazon. It’s a possibility, simply to get a hardware manufacturer. That said, I’m not sure Hewlett-Packard is the first name I’d think of when it came to smartphones. So I think that’s one of those long shots—highly unlikely. Won’t say it’s absolutely false, but it’s highly unlikely.

Steven Cherry: I actually kind of expected that partnership with the Kindle, and when that didn’t happen...I guess it won’t happen with the smartphone either.

Carl Howe: Don’t think so.

Steven Cherry: “Amazon will partner with Google.” True or false?

Carl Howe: I think this is the most likely result. Amazon is most likely to work with Android, since that’s the operating system that powers its existing Kindle Fire. And as such, I think that’s the most likely outcome. It’s a robust, well-understood operating system at this point; Google is committed to updating it; it’s probably the easiest and simplest platform for Amazon to use. That said, it would not surprise me at all for them to put their own user interface on top of that, just as they did with the Kindle Fire. So even if Amazon were to use Android, the great thing about it is they could still make it uniquely Amazon. It wouldn’t have to be a generic phone.

Steven Cherry: “For hardware, Amazon won’t partner with a smartphone maker, such as Motorola, Samsung, or HTC; it’ll go straight to Foxconn, the company that makes the iPhone.” True or false?

Carl Howe: I think that’s true. I think that Amazon has certainly proven that it can work with these device manufacturers that are offshore and produce good products. I was one of the skeptics when they introduced the Kindle, sort of saying it was really expensive, and the first devices weren’t so good. I actually went out and bought one of the latest-generation Kindles because they’re actually a very nice, well-designed device. They’ve come a long way in the last five years in terms of making devices. I think they’re perfectly comfortable in contracting to have someone else build it, and they’ll put Amazon’s name on it.

Steven Cherry: One more: “Amazon has no interest in being a leader in smartphones or even making any money on smartphones themselves, as long as enough people use them to order stuff from Amazon.” True or false?

Carl Howe: Oh boy, this is the razor and blades argument—that they can give away the razors and make all their money on the blades. I think that is partly true. It certainly has been true with Kindles, for example. They don’t make a lot of money on the Kindle; they make most of their money on the books that populate those devices. In the smartphone world—I think this is a much trickier world, and the reason is you not only have to split the revenues between the hardware maker and the media, but you’ve got another player in there, which is the carrier. And usually they want to be involved in the business as well and share some of that revenue, so I would see Amazon looking to make a small profit on the device. And they’ll need that profit to help subsidize their relationship with the carrier.

Steven Cherry: An analyst at Citigroup, Mark Mahaney, says it will cost between $150 and $170 to build the Amazon smartphone and that Amazon might sell it at cost. You know, Amazon recently came out with an app that makes it easy to look up the Amazon price for an item right when you’re looking at it in a store. We could discuss the dubious business ethics of that, but surely it shows the power of mobile phones in the retail realm and just what Amazon’s real interest is here.

Carl Howe: Yeah, I think there’s certainly a reason for them to want to have, in essence, an Amazon store in everyone’s pocket. I think the open question is whether they have to build their own device to get there. As you just pointed out, they can certainly build an app for an iPhone and achieve many of the same goals of having an Amazon store in your pocket and being able to insert themselves into retail transactions. The real question is, do they need that branded phone that they’re going to sell to you, provide service to, and at the end of the day provide all the media ecosystem around? I’m not sure they need a branded product to do that, but it’s certainly within the realm of possibility.

Steven Cherry: So if you were a betting man, which way would you bet at this point?

Carl Howe: I think they will make an entry. I think they’ll try. The place I would position them in is—they will enter into this market not with what we call a “hero phone,” one of the ones that costs anywhere from $400 to $600 in cost and is really marketed as the premier product. Instead, what I see them doing is launching a “value smartphone,” something that, as you had pointed out, may cost $150 to $200 to make. And that’s kind of the low end of the smartphone market here in the U.S.; it’s actually very mainstream outside the U.S. And we should remember that they probably would want to sell outside the U.S., and as such, they could sell it at a very affordable price and thereby get a foothold into your pocket—forgive mixing the metaphors—with the consumer and thereby promote their brand and their products with everyday people.

Steven Cherry: And I guess that was their strategy with the Kindle Fire as well. Amazon didn’t go after the iPad market; it went after something smaller, simpler, lighter, cheaper. Just to switch gears for a minute, I have another question about Amazon, and that is: They’ve made a lot of progress in making next-day delivery routine and even free for regular customers, and the company seems to be working towards same-day delivery in major cities. Do you think that would have a big impact on the retail markets, and is having its own mobile phone important in that?

Carl Howe: Well, I think that’s a great insight. As Amazon continues to reduce the interval between “Gee, I wish I had something” to “You now own it,” they become more sticky with consumers. They become the preferred provider because they just satisfy our every whim. If they can have a branded product and say, “Oh, by the way, if you have our smartphone you get same-day delivery of the products you order from us,” that could be a very attractive proposition for consumers. What I think is kind of the dark side of that, though, is, first of all, its effect on other retailers. But more importantly, I think it could have a real effect on Amazon’s financial future. One of the challenges with all of these business models is despite growing like Topsy and being everyone’s preferred provider, on the grand scheme of things they don’t make much money; they’re not very profitable. And at some point, Wall Street is going to insist that they make a little bit more money. And doing more things that cost more money just to have a new market that doesn’t get more profitable over time...I’m skeptical they can keep that going that much longer.

Steven Cherry: Yeah. And along those lines, as Amazon builds distribution centers all over the place, they’re also starting to finally charge and pass along state and local sales taxes, and that also cuts into that gap between their price and other people’s.

Carl Howe: Yeah, absolutely. These small costs—change in the delivery system, paying sales taxes—they seem small to us, but a lot of Amazon’s business has been basically undercutting a lot of traditional stores that have had those costs. So I think what we’re now seeing is, well, online is now becoming a lot more like offline retailing, and that’s a place where Amazon’s advantages may not be quite as great as they have been in the past.

Steven Cherry: So, one last question, while we have you. Getting away from Amazon entirely, we’ve waited a surprisingly long time between iPhone releases, and that’s presumably the reason for the dip in sales that I mentioned at the top of the show. A lot of people are waiting, including me by the way. When do you think the iPhone 5 will come out?

Carl Howe: All indications are that we’ll see a new iPhone in the fall. That said, Apple, particularly with their latest earnings release, has shown that they’re not going to be beholden to other people’s expectations. They ship products literally when they’re done; they try not to ship a lot of products that are half-done and then fix them after they’ve shipped. Not to say they haven’t done it, but it’s become increasingly uncommon—let’s put it that way. If I look at any company, they’re the ones that will stick with something until they feel it meets a very high quality bar. So, for example, if some manufacturing problem cropped up—and by the way, we would expect if these are going to launch in October they are making them now, because any Apple launch requires supply of millions of devices on day one, and you can’t build those overnight—if they were to run into a production glitch, this could slip into November, December, January, if there were a problem. I don’t expect that to happen. The current CEO, Tim Cook, he built his career on being the master of supply chains, and I just can’t imagine him letting that happen. This is much too important a product. I think you’ll see it in the fall, and as you point out, the expectations for this by consumers are off the charts. We actually do a survey of consumers about—asking them what they intend to buy in the next six months, and we ask about smartphones regularly. Our May data actually just showed that intent to buy an Apple iPhone is the highest we’ve ever seen; it’s about 42 percent of consumers who expect to buy a smartphone of any type, and that is now higher than the intent to buy an Android phone of any type, this is higher than Samsung, this is higher than HTC, higher than Motorola combined. So that indicates there’s incredible pent-up demand for the next iPhone, and I think you’ll see that arrive on schedule, and the lines will be around the block.

Steven Cherry: I think I’ll be on it, too. Well, thanks, Carl, for your insights. As either Yogi Berra, Niels Bohr, or Sam Goldwyn said, “It’s hard to make predictions, especially about the future,” so we appreciate you taking a shot at it.

Carl Howe: It was my pleasure.

Steven Cherry: We’ve been speaking with Yankee Group analyst Carl Howe about whether Amazon will jump into the smartphone market. For IEEE Spectrum’s “Techwise Conversations,” I’m Steven Cherry.

Announcer: “Techwise Conversations” is sponsored by National Instruments.

This interview was recorded 25 July 2012.
Segment producer: Barbara Finkelstein; audio engineer: Francesco Ferorelli

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