Microsoft’s Purchase of Nokia Comes as Device Branding Critical in Smartphone Market

Microsoft’s plan to acquire Nokia’s Devices and Services business for $7.2 billion is the first step in the acquirer’s steep climb to gain solid share in an increasingly brand-driven market dominated by iOS and Android mobile operating systems, analysts said Tuesday. “The branding of the phones to date has been the primary means of success” in the smartphone market, NPD analyst Stephen Baker told us. “The fact that Samsung stepped so far up in front of all the other Android brands shows that more and more the market for phones is a brand market versus an operating system market."

Buying Nokia lets Microsoft dual-brand the Windows Phone operating system with the device, a model that has worked for Apple, Baker said. To take on Apple, Microsoft needs a mobile device strategy focused on “gaining share incrementally,” he said. Owning the hardware will give Microsoft insight into what consumers want on the device side, but ultimately the company’s success will come from “catching up on the software side,” he said. Windows Phone is “unable to compete” with Android or iOS in features and ecosystems, Baker said.

According to Microsoft, Nokia’s Windows Phone 8-based Lumia handset sales have grown consecutively for the past three quarters, to 7.4 million units in Q2. Research company Gartner said Nokia’s total mobile phone sales were down in Q2 to 61 million units from 83 million units a year ago, but Lumia smartphone sales jumped 112.7 percent in Q2 this year due to the expanded Lumia portfolio. Nokia’s breadth of devices covering multiple price points is expected to drive further growth over the second half, but the brand faces “tough competition from Android devices,” particularly regional and Chinese handset makers that are more aggressively priced, Gartner said.

In its most recent listing of worldwide sales to end-users by vendor, Gartner said Samsung was the dominant smartphone leader with 71.4 million units shipped in Q2, for a 32 percent share. Apple followed with 31.9 million units shipped for the quarter, or 14 percent of the market, a slip of 4 percentage points compared with Samsung’s 2 percentage point gain over Q2 2012. LG, Lenovo and ZTE followed with 5, 4.7 and 4.3 percent market share in Q2 2013. Nokia was part of the “other” category that made up 40 percent market share. In smartphone operating system rankings in Q2, Microsoft surpassed BlackBerry for the first time, taking the No. 3 spot with 3.3 percent market share. Android, meanwhile, upped its commanding share to 79 percent, with Apple at 14.2 percent.

Despite the entrenchment of iOS and Android, “there’s always been talk about a third ecosystem,” Gartner analyst Carolina Milanesi told us. Gartner believes Microsoft can climb to 15-17 percent market share, Microsoft’s goal over the next few years, Milanesi said. “As Windows 8 becomes more familiar” to consumers -- and they become accustomed to the Windows 8 tiles structure -- the company’s market share in the mobile segment will expand, she said. That growth will come more at Android’s expense than iOS’s, she said, citing the various price points that bring Lumia phones to a broader customer base and to “less loyalty” in the Android ecosystem. Apple customers closely follow “the next thing” and many want the new model every time the company brings out a new phone, said Milanesi. Android customers are more interested in a device’s price points and usability, she said. There’s little investment in brand in the same way in the Android world, she said.

Marketing will be key to Microsoft’s success, Milanesi said. Consumers don’t see Windows devices as “sexy,” she said. The company needs to listen to experts and customers as it develops an ecosystem, because there’s “more to hardware than hardware itself,” she said. To make the investment in Nokia pay off, the company needs to integrate the hardware and software to exploit the channel presence Nokia has in emerging markets and with consumers in general, she said. Microsoft has its presence in the enterprise side, while Nokia brings expertise on the consumer side along with its carrier relationships, Milanesi said.

Lately, Microsoft has been working more in concert with Nokia, said investment bank Canaccord Genuity, citing Microsoft’s ad campaign touting Lumia features. It estimates that Lumia sales constitute more than 85 percent of Windows Phone 8 smartphone sales. Microsoft’s “strong balance sheet” and increased focus on hardware devices can help accelerate Windows Phone 8 momentum, Canaccord said. It said Windows 8 smartphone sales are “gradually improving” due to the Lumia 520 and other “mid/low-tier” Lumia devices, which have strong sales in emerging markets including Russia and the Asia-Pacific, along with mature markets, including the U.K. and U.S.

The purchase of Nokia businesses would mark a “highly significant change of trajectory” for Microsoft, said Ovum analysts. They said the Nokia additions would enable Microsoft to face industry rivals “on more equal terms.” In the broader picture, the acquisition is an “indicator of the future of consumer tech” and a “symbolic end to the mobile phone industry we've known until today,” said Ovum analyst Tony Cripps.

Technology vendors need to create deeper and wider offerings to consumers and ecosystem participants covering devices, platforms and service offerings, Cripps said. In Microsoft’s case, it will take “mega bucks” to take on Apple and leading Android device maker Samsung to compete on marketing and shipment volume, he said. “We need to see that kind of commitment coming before we can really count Microsoft in the same league.”

Microsoft’s strengths in the consumer tech market come from the Xbox, VoIP services and “ease of integration” of Windows Phone with Microsoft Office 365, Cripps said, along with the considerable installed base of PCs worldwide. Beyond Apple and Google, Microsoft is the “best equipped” of the largest consumer tech companies to succeed long term, but he said “execution is another matter.” Ovum has set a 15 percent share marker as a “good target to aim for” before it’s convinced Microsoft can establish itself as a consumer technology “market maker rather than a follower."

The purchase of Nokia’s device business can go only so far in today’s smartphone world, analysts said. Microsoft “still directly controls very little of its ecosystem,” said NPD in a group blog. Microsoft doesn’t control the client business “the way Samsung and Apple do,” it said. “There simply is not enough profitability in hardware alone,” it said, while acknowledging that owning the hardware distribution is essential to delivering profitable services. Microsoft’s ecosystem “will remain burdened by its hardware partner focus,” NPD said. It’s unclear how Microsoft and its ecosystem can be successful without “considerably more vertical integration,” it said. It called the Nokia purchase the first step in what is likely to be a “reinvention of the client device landscape.”