It looks like the decade-long smart­phone party is over

De­vice and parts mak­ers look to di­ver­sify with cars and ap­pli­ances “You couldn’t help but won­der how long the party could go”

Bloomberg Businessweek (Asia) - - CONTENTS - Ian King and Adam Satar­i­ano

Af­ter al­most a decade of tur­bocharged sales, the $423 bil­lion smart­phone in­dus­try can no longer count on con­sumers to up­grade ev­ery two years. Warn­ing signs of a sput­ter­ing mar­ket spilled into the open at the end of April, when Ap­ple an­nounced its first quar­terly sales de­cline in 13 years, and re­search com­pany Strat­egy An­a­lyt­ics re­ported the first drop in quar­terly smart­phone ship­ments, by 3 per­cent. “You couldn’t help but won­der how

long the party could go,” says Whar­ton man­age­ment pro­fes­sor David Hsu.

The in­dus­try says smart­phone sales could re­vive, given that peo­ple will even­tu­ally need to re­place their phones and most con­sumers will need new ones to en­joy the ben­e­fits of high­speed data; only 16 per­cent of smart­phones can tap into these fast LTE con­nec­tions. But don’t bet on a come­back, says Neil Cam­pling, an an­a­lyst at Avi­ate Global, who ex­pects smart­phone mak­ers to start squeez­ing com­po­nent pro­duc­ers to shore up mar­gins. “The end of the Ap­ple su­per­cy­cle is upon us,” he says.

As the mar­ket ma­tures, phone­mak­ers and their sup­pli­ers have rea­son to worry about the kind of years­long de­cline fac­ing the PC in­dus­try. This time, there isn’t an ob­vi­ous suc­ces­sor in con­sumer elec­tron­ics. De­vel­op­ers are hard at work on vir­tual-re­al­ity head­sets, driver­less cars, and the grab bag of con­nected gad­gets and soft­ware known as the In­ter­net of Things (IoT). Yet it may be years be­fore these tech­nolo­gies en­ter the main­stream.

Sales at Qual­comm, the lead­ing mo­bile chip­maker, fell 19 per­cent last quar­ter from the year be­fore, to $5.5 bil­lion. The com­pany has been delv­ing into drones, cars, and In­ter­net­con­nected ap­pli­ances—so-called ad­ja­cent busi­nesses it pre­dicts will gen­er­ate more than $2.5 bil­lion in sales this year. Those growth prospects, how­ever, make up just 11 per­cent of the com­pany’s to­tal ex­pected rev­enue. That ex­plains in part why Qual­comm has lost 26 per­cent of its mar­ket value in the past year, com­pared with a 3 per­cent de­cline for the IT sec­tor as a whole.

Ap­ple is try­ing to off­set de­clin­ing iPhone sales with rev­enue from ser­vices such as the App Store, iCloud, and—as you may have read—Ap­ple Mu­sic. Profit mar­gins are fat­ter in these busi­nesses, and rev­enue from them grew 20 per­cent in the lat­est quar­ter. Still, ser­vices ac­count for just 12 per­cent of sales at Ap­ple, where shares have fallen 27 per­cent in the past 12 months.

Ap­ple, too, is ex­plor­ing the au­to­mo­bile in­dus­try. Au­to­mated-driv­ing fea­tures and ad­vanced en­ter­tain­ment and in­for­ma­tion sys­tems are cre­at­ing op­por­tu­ni­ties to sell com­po­nents and soft­ware now com­mon­place in smart­phones. Still, an Ap­ple car is prob­a­bly years away, and some an­a­lysts won­der whether it will hit the streets at all.

Sam­sung re­ported solid sales of the Galaxy S7 in its lat­est earn­ings, but it’s look­ing be­yond the smart­phone as in­vestors worry whether they can ex­pect an­other hit soon. “The lin­ger­ing mar­ket ques­tion about what could re­place smart­phones has not been fully ad­dressed,” says Lee Se­ung Woo, an an­a­lyst at IBK Se­cu­ri­ties. Sam­sung is sell­ing VR gad­gets and push­ing hard into the In­ter­net of Things, build­ing Web-con­nected kitchens and cloud ser­vices to man­age them.

Flex, a long­time as­sem­bler of smart­phones for the likes of Black­Berry and Mo­torola, is among the com­pa­nies branch­ing out the fur­thest. Along with car com­po­nents, med­i­cal de­vices, and Fit­bits, Flex has started mak­ing clothes and cus­tom sneak­ers for Nike.

It’s hard to imag­ine one sin­gle thing re­plac­ing the smart­phone, says Neil Maw­ston, an an­a­lyst at Strat­egy An­a­lyt­ics. His com­pany es­ti­mates that by 2020 there will be 5 bil­lion In­ter­net of Things de­vices in use, com­pared with 4 bil­lion smart­phones. But most IoT de­vices will cost $1 or $2 and won’t need re­plac­ing for 5 to 10 years. So com­pa­nies must dab­ble widely—in drones, con­sumer ro­bots, wear­ables, smart homes, cars, and else­where. “That cock­tail is the next big wave be­yond phones, rather than one big new seg­ment,” Maw­ston says.

In the short term, even ag­gres­sive di­ver­si­fi­ca­tion won’t nec­es­sar­ily pro­tect smart­phone sup­pli­ers. Texas

In­stru­ments’ first-quar­ter rev­enue fell 4.5 per­cent de­spite grow­ing de­mand for com­po­nents from mak­ers of cars, in­dus­trial equip­ment, and phone net­works. Ac­cord­ing to a Bloomberg sup­ply-chain anal­y­sis, TI’s big­gest cus­tomer is Ap­ple.

The bot­tom line With smart­phone ship­ments fall­ing for the first time, there's more ur­gency be­hind sup­pli­ers' di­ver­si­fi­ca­tion ef­forts.

“It was ab­so­lutely bias. We were do­ing it sub­jec­tively. It just de­pends on who the cu­ra­tor is and what time of day.”

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