China is rewriting the rules of the mobile game, and Apple is still winning

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If you’re a producer of personal electronics without a China strategy, then you might as well not have a growth strategy. The rising influence of the world’s most populous nation has been described as the only geopolitical constant of the past 30 years, and recent times have seen it growing in economic influence as well. China is now the world’s largest smartphone market and continues surging forward as its economy and people ramp up their consumption of things to match their already vast production.

China’s Lenovo now owns two of the United States’ (and, by extension, the world’s) best-known technology brands: ThinkPad and Motorola. Like the successful companies that have risen out of the neighboring Taiwan and South Korea, Chinese tech companies are gradually moving from simply producing devices to controlling and selling them under their own brands. That’s how Asus, HTC, Samsung, and LG all rose to prominence: following Western blueprints and capitalizing on already having the means of production for advanced technological devices.

The difference now, though, is that China is a leader in tech consumption, not merely production. Being amazingly successful in a smaller country like South Korea can surely be lucrative, but Samsung products had to go global for the company’s success to be globally significant. Xiaomi, Huawei, and Lenovo’s own-brand smartphones, on the other hand, collect almost all of their sales in their native China. And they are the three companies tussling for third place behind Apple and Samsung in the global smartphone sales rankings.

Success in China happens at a scale unmatched anywhere else in the world

"Success in China almost guarantees a place in the top 10 global market share stakes," explains mobile industry analyst Ben Wood of CCS Insight. "That comes with associated benefits. Scale equals a strong position in the supply chain, component procurement, and more cost-effective manufacturing." He cautions that popularity in China is no guarantee of global success — citing Huawei’s extensive and so far unsuccessful investment into establishing itself as a global brand — but that might not actually matter. HTC and LG are global brands, but their sales are being eclipsed by the relatively obscure Xiaomi.

Four years ago, Nokia believed the key to its healthy survival as a mobile manufacturer was gaining a foothold in the crucial US market. It was taken as a given that to succeed in such a hyper-competitive industry, a company had to establish itself in the most important market — but is that still the United States? Today we are seeing companies thriving without any significant US presence. Xiaomi has no plans to test US waters, but it has growing revenues and a vibrant user base. It also has the lead in Chinese smartphone volume sales, eclipsing the mighty iPhone and Galaxy smartphones.

The recognition of China’s importance is evident everywhere in the mobile industry. HTC is, for the first time, introducing two flagship smartphones this year, with the One M9+ being tailored to the needs and preferences of the Chinese market. In February, around the turn of the Chinese New Year, Lenovo brought Motorola back to China, setting it up as a sort of exotic alternative to local offerings, one where user customization is paramount.

But no one has benefited from China’s growing appetite for smartphones more than Apple. Even as the developed world was becoming saturated with iPhones, Apple kept expanding its sales with the help of China. The iPhone first became available in China in 2009, relatively early in its now gloried history, and has kept growing in line with the country’s expansion in disposable income and smartphone demand. This past quarter, Apple sold more iPhones in China than in the United States, belying prognostications that the Chinese market wouldn’t be receptive to such a premium, high-margin device.

China's wealth inequality has produced two distinct smartphone markets: one about value, and the other about status

Ben Evans of Andreessen Horowitz explains this phenomenon succinctly: it’s all down to income inequality. Even while the country suffers from widespread rural poverty and the most common phone purchases are of devices with negligible profit margins, "there are, say, 100 million people in China who can buy luxury goods, and they want the best." And, according to a recent survey of Chinese millionaires, the best when it comes to making luxury purchases and gifts is Apple. Ahead of Louis Vuitton, Gucci, Cartier, and Bvlgari. Interestingly, Samsung also makes it into the top 10 rankings in that survey, which suggests a close association in the Chinese consumer’s mind between advanced technology and luxury. The Apple Watch Edition is a product that sits at precisely this intersection of electronics and opulence.

"That's why the 5C flopped in China" after doing just fine in the USA, continues Evans. Apple’s appeal is about status first and specifications second. Still, the Cupertino company unlocked a great deal of untapped Chinese demand when it introduced larger iPhones late last year, leading to the most profitable quarter in corporate history. "For a range of reasons, the Chinese like big phones," says Evans, and "when Apple offered one, they switched away from Samsung."

The phablet-sized iPhone 6 Plus might not exist were it not for China’s predilection for bigger screens. The One M9+ certainly wouldn’t. Only Japan, by virtue of its insularity and specific requirements for things like waterproofing, and the US could previously command such tailored solutions to their customers’ whims. But just as China has surpassed Japan to become the world’s second biggest economy, so have the preferences of its consumers risen in global importance. Apple still hasn’t made a waterproof iPhone for the Japanese, but it’s shown itself highly responsive to Chinese needs. The difference is scale.

Mobile analyst Avi Greengart summarizes the demands of the Chinese consumer as follows: "Chinese consumers prize status, absolute value, and local content." Because Apple already has the luxury status, it can afford to sell its devices at a premium that other smartphone brands can only dream of commanding. When Apple presented greater value with its literally greater iPhones, China responded enthusiastically and bought even more. The local content aspect is Apple’s greatest weakness so far, and it’s where the local manufacturers continue to hold an advantage. Though that’s apparently not big enough of a hurdle to prevent record iPhone sales.

The recent trend in the smartphone market has been a polarization between the two premium global leaders — Apple and Samsung, who can sell high-end devices at a healthy profit — and the litany of smaller manufacturers engaged in a price war that sees them barely scraping by. Just take a look at HTC’s operating margin for the past three quarters: it’s gone from 0.4 percent, to 0.3, to 0.05 percent. The middle class of smartphone manufacturers like HTC is being squeezed out of existence by the big guys at the top and the geographically limited Chinese companies that have smaller costs and cheaper manufacturing. And it’s all down to China’s scale. It amplifies everything happening within the country’s economy to the point where it affects the entire world. China wants its phones to either represent high status or great value for money, so that’s what we’ve got: the premium iPhone 6 and Galaxy S6 Edge, on the one hand, and the spec-laden Xiaomi Mi Note and OnePlus One, on the other.

China isn’t the absolute kingmaker of the mobile world just yet, but its influence is already enormous, with many believing it to be of preeminent importance. "There is no doubt China is the most important market to be successful in, way more so than the US," says Forrester Research analyst Thomas Husson. "Smartphone growth is now coming from emerging countries. That's the new battleground with China and India playing a key role." The growth of those economies has sprung up a fundamentally new and different mobile industry, where established global leaders like HTC, LG, Sony, and Microsoft’s mobile division struggle to find their proper place. Apple, on the other hand, has taken a comfortable seat at the top of the heap and is weathering this disruption in luxurious style.

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