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What Samsung's Success Means For Apple

Stephen D. Simpson, CFA

For as much attention that centers on Apple, a curious detail happens to be true of the first quarter - Korean electronics giant Samsung actually sold more smartphones and sits in the catbird seat in the global cell phone market. Does this mean the end is in sight for Apple's special relationship with Wall Street, and how should investors react to this market reality?

SEE: Should You Care That Samsung Doesn't Need U.S. Investors?

Samsung Rises to the Top
For the first quarter of 2012, Samsung was the top mobile phone company in the world - knocking long-suffering Nokia from the global number one position, but also unseating Apple as the top vendor of smartphones. Although this is not the first time that Samsung has outsold Apple, it is the first time that the margin of such sales (44.5 million versus 35.1 million) was substantial.

Why Samsung Is Winning
There are a lot of reasons that Samsung has managed to rise to this coveted spot. Some of the company's competitive advantage revolves around fairly simple economic factors - price and selection.

Simply put, Samsung offers a wider variety of phones, with a wider array of features and price points, than Apple. If you don't like the basic iPhone offering(s), there's not a substantial amount of difference between one and the other. Within the Samsung stable, though, it's much more likely that even a finicky customer can find something to suit his or her tastes. While price can be heavily influenced by carrier relationships and subsidies, Samsung has generally been willing to go further down the price curve, while Apple maintains an accessible-affluent price point.

There is likely to be an even more significant factor at work here, though. Samsung and Apple do not operate on identical product cycles, and the differences in those cycles can lead to fairly significant trade-offs in market share. Said differently, Apple iPhone fans wait for new iterations and buy them in large quantities, propelling sales in those quarters. In the interim, Samsung has their own launches, as well as significant promotional activity that drive customers to their phones.

Will Apple Do Anything About It … Should They?
Given how Apple has run itself in recent years, there's little reason to think that the company is going to respond directly to the Samsung challenge. For starters, that would be very "un-Apple-like," as the company sees itself as the trend-setter and would likely loathe the idea of recognizing that another company may be ahead of them in some fashion.

Moreover, Apple has been at this a while and has seen companies like Motorola, HTC, Research In Motion and Samsung pick up steam on a particularly successful new design or launch. But through it all, Apple keeps winning and has maintained the status as the technology and innovation leader in the market. In other words, even if Samsung is winning, Apple's most likely response is to make the next iPhone better than the last and hope to leapfrog the competition yet again.

SEE: Apple Passes Google's Stock Price

Last and not least, it's not clear that Samsung is really drawing business away from Apple. If Samsung does, in fact, owe much of this volume growth to lower-priced, lower-feature phones, Apple will be more than happy to let them have it. Apple has never shown any particular inclination to compete at lower price-points; that's what used, older generation iPhones are for. Given the high margins Apple enjoys, and the extent to which suppliers fight for their business, Apple likely sees little risk in Samsung replacing Nokia in the mass-market phone category.

Long-Term Implications
If there is a long-term threat to Apple from Samsung, it may be in the possibility that Samsung will successfully capture low-end customers and eventually upgrade them to higher-value phones.

Along separate lines, higher volume in Samsung's phone business could improve margins to a point where Samsung can use the lower-end of the market to essentially subsidize its higher-end offerings - allowing the company to increase research and development and/or compete more effectively on price. This is what Nokia failed to do; the company posted years of relatively healthy cash flow, but failed to leverage it into better technology and better phones.

Eventually Apple's run will end; no company has stayed at the leading edge of its industry forever. Gap may have shaken up a stodgy retail world, but eventually it became a victim to more innovative and responsive companies. Microsoft dominated software … until the computing world changed and mobile devices and cloud computing became the new growth stories. Even Disney has seen other studios come in with more appealing characters and products to draw away the attention of kids and the money of their parents.

SEE: A Primer On Investing In The Tech Industry

The Bottom Line
Perhaps the most interesting long-run implication to Apple, concerns how the company sees itself in the future. Is Apple going to maintain a focus on high quality, edgy design and functional innovation, but stay within a relatively fixed price-point, or will the company embrace a more all-encompassing view of its markets and develop a wider array of products?

Given how focused the Mac still is today (there's really no low-end Mac or ultra-high-end Mac), odds are that Apple will continue to focus on finding new markets and releasing new products, as opposed to broadening its footprint in those existing markets. While there is a risk that the company runs out of worthwhile target markets, leading to both revenue growth declines and multiple compressions, it may be quite a while yet before that becomes a real concern.

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