Microsoft and Others Can’t Win a Spending War

A recent article in the Globe and Mail posits that companies like Microsoft or HP could mount a serious challenge to the iPhone and Android phones because they have “deep pockets”. Currently, iOS and Android phones now own more than 50% of the global marketshare for smartphones and they continue to increase their share of that pie at the expense of others. Add in the still-tepid response to Windows Phone 7, and the paucity of devices with WebOS, and it doesn’t look good. A spending war is unlikely to change that.

I want to address one idea put forward by one contributor in the article, where they say that offering the developers 95% of app sales revenue instead of 70% would change the game. That is a rather naive statement to make. Personally, I would have rather take 70% of revenue for sales into a market with many tens of millions of devices and hundreds of thousands of app sales each day, vs. 95% in a market with single-digit millions and less than ten thousand app downloads globally a day. I am more likely to sell 10x more of my product in the bigger market than the other, so the extra revenue in smaller one in no way makes up for the lack of sales.

The biggest challenge for Microsoft, HP or any new entrant is that Apple (and to some degree Google) have deeper pockets. If it came down to some kind of spending war, either by increasing developer revenue on apps, or reducing margins on product, Apple has far more room to move and several tens of billions of dollars sitting in the bank. They have more cash on hand, and more profit in absolute dollars, than Microsoft, that they could put into the game. HP’s cash balance isn’t spectacular, and their numbers are already down as of last quarter, partly due to iPad sales cutting into their notebook revenue. HP is in no position to get into any kind of a spending war, not without wrecking their balance sheet. Microsoft would be in a better position, but if it came down to a war of attrition, Apple and Google have more in reserve than Microsoft.

Of course, the bigger question is how would this spending war unfold? Neither Microsoft or Google have direct control over the devices running their systems, so if they wanted to drop the price of their offerings, they would have to either provide funding to the carriers to subsidize the phones, or provide some kind of cash incentive to the handset makers. Microsoft could drop the price of the operating system software, but I would guess that they are near rock bottom right now anyway. Apple and HP are in a different position, because they make the hardware and not just the software, but again, HP doesn’t have the financial resources to go much further.

The other side of the equation could be on app developer revenue share, but again, Apple and Google have the advantage of a significant installed base, and one that is shown to buy apps at a healthy rate. Even if HP or Microsoft were to offer a number like 95%, all Apple would need to is increase developer share to 75%, and that combined with the larger market would more than offset any gains you might see on the other apps stores.

I’m also not sure that we’re at the point in this market’s lifecycle where price of the devices is a significant factor. Price has played a larger role compared to even a few years ago, but the market is still at the point where there are a lot more feature phones compared to smartphones. My guess is what is holding those customers back is partly the price of the devices, but more likely its the price of the services needed to fully use the devices. There are a lot of prepaid phones and people on the cheapest voice plan they can get. Adding in data will, for most them, double their monthly cost (or more). If the price of the plans starts to drop to the point where a smartphone’s incremental operating cost is only slightly more than a voice-only plan, then you start to get into the device cost as a factor. The cost of the device will continue to increase in importance during a customer’s buying decision, but for many, I’m not sure it’s the primary issue just yet.

For now, a spending war to try to buy marketshare is possible, but I suspect it is unlikely to move the needle much. Again, Apple and Google have the wherewithal to enter into such a battle, should they choose to do so, and outlast pretty much any entrant who would be willing to try.