Sameer Singh

Apple, Samsung and the 'profit share trap'

May 28, 2013: 11:36 AM ET

The current state of affairs, writes an analyst from Hyderabad, is untenable.

391435624783FORTUNE -- In the midst of a loud debate over which matters most in the smartphone wars -- market share or profit share -- Sameer Singh calmly analyzes the situation from the perspective of disruption theory.

Writing on his Tech-Thoughts blog, the Indian analyst from Hyderabad describes the current state of affairs -- where Apple (AAPL) and Samsung share between them nearly 100% of smartphone profits -- as a "trap."

"Profit share in the smartphone industry is currently skewed, because of the economics involved," Singh writes. "Smartphones sold in markets with higher purchasing power are mostly subsidized, which ensures that today's major brands dominate. Smartphones sold in markets with lower purchasing power are mostly unsubsidized, which ensures the dominance of low-end phones, and a number of low-end vendors (with far lower profits)."

Until recently, Apple's lopsided share of smartphone profits was protected by a deep moat -- a software and services ecosystem that includes hundreds of thousands of apps, tens of millions of songs and hundreds of millions of credit card accounts.

But disruption theory says that as products improve and become "good enough" for mainstream use, it becomes increasingly difficult to create a strong value proposition by making a "better" product.

Applied to Apple, this suggests that as competing platforms catch up, the ecosystem will evolve from being a differentiator to what Singh calls a "hygiene factor" --  a necessary but not a sufficient condition for purchase.

"As products become good enough," Singh concludes, "pricing pressure and supplier bargaining power limits profits. This "profit share trap" becomes more problematic as investors and analysts continue to expect the same, unsustainable level of growth and profitability. The only way to escape this trap is by diversifying (IBM is an example), becoming a services/software/component supplier to the increasingly competitive OEM space (Samsung has the advantage here) or by the riskiest approach -- attempting another disruption (Apple's rumored iWatch seems to be such an attempt)."

It doesn't have to be a wristwatch, of course. But if Singh is right, Apple has to have something up its sleeve.

Link: Apple & Samsung's "Profit Share" trap

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