Firms and How They Operate/Mkt Structures

Question 4

Development and Competition in the Smartphone Market

Extract 1: The Battle for the Smartphone's Soul According to Informa, a market research firm, the market for smartphones will grow from $39 billion in 2007 to $95 billion in 2013, by which time they will make up nearly half of the handset market by value and 34% by volume. growth in industry likely due to increased DD As handsets get smarter, the nature of the industry will change. It will be less about hardware and more about software, services and content. In fact, for the first time, more will be spent this year on such intangibles than on the handsets themselves. And this is why, also for the first time, a fierce battle between operating systems for handsets has broken out. According to Roberta Cozza of Gartner, another market research firm, each operating system will be trying to win the hearts and minds of software developers in 2009. But even if one comes out ahead, it is unlikely that the market will consolidate soon. Indeed, the best outcome is a continuing battle. If the market for mobile phone operating system were to consolidate quickly or go down the same route as PC operating systems, which wound up being dominated by Microsoft Windows, the result would probably be less innovation. And it is by innovating rapidly that the mobile phone industry has the best chance of weathering the oncoming recession. effect of monopoly/strong market power lack incentive to innovate
Source: The Economist, 22 November 2008

Extract 2: Competition Heats up among Smartphone Operating Systems There is suddenly a race for rolling out not just new smartphones but also smartphone operating systems (OSs). With the roll-out of 3G networks, the market is heating up as new entrants are unveiling their products. Apple is, of course, the pioneer with its iOS platform, but now Googles Android, Nokias MeeGo, Microsofts Windows Phone and Black-Berrys RIM OSs have joined the market. The new kid on the block is Samsung with its Bada OS. With the 3G roll-out, the top players are expected to flood the market with newer smartphones and OSs, making a smart pick of a smartphone terribly tough. new firms entering market with new products greater consumer choice Analysts feel that for new entrants like Samsung to succeed, they should support their devices through regular updates of the OSs. In addition, apps are important as they make or break a smartphone. Without apps, a device is a dumb device.
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Source: The Economic Times, 9 July 2010

Extract 3: Survival of the Fittest Worldwide smartphone sales to end users are booming. Among the most successful vendors were Apple and Blackberry, which controlled an integrated set of operating system (OS), hardware and services. To compete in such a crowded market, manufacturers need to tightly integrate hardware, user interface, and social networking services if their solutions are to appeal to users, said Robert Cozza, principal research analyst at Gartner. Just adding a qwerty keyboard will not make a device fit the communication habits of today's various consumer segments. [product differentiation + product tying]
Source: Gartner, 19 May 2010

Extract 4: Singaporeans Big on Smartphones Sales of smartphones in Singapore began rising late last year. Consumers had been drawn to the devices, which allow them to watch YouTube videos, get turn-by-turn driving directions, download and play music, and even play games in addition to making phone calls and sending text messages while on the move. In addition, operators have helped drive demand by dangling heavily discounted handsets and generous price plans. Industry sources say Nokia and Blackberry handsets make up the bulk of smartphones in use currently. However, the rise of the Apple iPhone and more recently handsets running Googles operating system (Android) like Samsung Galaxy S could change this soon. Google also has partnerships with multiple phone makers such as HTC, Motorola and Samsung. Source: The Straits Times, 25 August 2010 Table 1: Worldwide Sales of Smartphone by Operating System Operating System 2007 Q2 2008 Q2 2009 Q2 2010 Q2 Units Market Units Market Units Market Units Market ('000) Share ('000) Share ('000) Share ('000) Share (%) (%) (%) (%)
18,273 2,471 65.6 8.9 18,405 5,594 57.1 17.4 20,881 7,782 51.0 19.0 25,387 11,229 41.2 18.2

Symbian (Nokia) Research in Motion (Blackberry) Android (Google) iOS (Apple) Microsoft Windows Mobile

-270 3,212

-1.0 11.5

-893 3,874

-2.8 12.0

766 5,325 3,830

1.8 13.0 9.3

10,606 8,743 3,096

17.2 14.2 5.0

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Linux 2,816 Other OSs 811 Total 27,855 Source: Gartner (a)(i)

10.1 3.0 100.0

2,359 1,077 32,221

7.3 3.4 100.0

1,901 497 40,972

4.6 1.2 100.0

1,503 1,085 61,649

2.4 1.8 100.0

With reference to Table 1, describe the trend in the total worldwide sales of smartphones from 2007 Q2 to 2010 Q2. [2] Increased [1] at increasing rate [1].

(ii) Using economic analysis, explain the above trend. o o

[6]

The increase in smartphone sales was due to the increase in DD and SS of smartphones. Reason for DD increase o consumers developed a stronger preference for smartphones, which offer more functions/applications/features than normal phones, such as streaming videos, providing driving directions, downloading and playing music, etc. [change in tastes and preferences] o Fall in the price of subscription plans subscription plans (with data bundle) and smartphones are close complements, a fall in plan price led to an increase in Qdd for plans and rise in DD for smartphones [change in price of related goods] Reason for SS increase o new entrants unveiled their products at a fast pace [entry of new firms into market]. Nokia, Blackberry, Apple, Google and many other new players raced to roll out new OSs and smartphones, thus increasing the SS of smartphones.

As shown in Fig 1, the increase in DD shifted the DD curve from D0 to D1, and the increase in SS shifted the SS curve from S0 to S1. This resulted in an increase in sales of smartphones from Q0 to Q1.
Price

S0 S1

D1 D0 0
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Q1

Qty
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Figure 1: Market for Smartphones

Firms and How They Operate/Mkt Structures

Knowledge, Understanding, Application & Analysis Developed explanation for the rising trend of smartphone sales using at least 1 DD factor AND 1 SS factor, and L3 5-6 illustrated with appropriate diagram(s) Max 5 if no diagram Undeveloped explanation for the rising trend of smartphone sales using both demand and supply factors L2 OR 3-4

L1 (b)

Developed explanation for the rising trend of smartphone sales using either demand OR supply factors Smattering of valid points 1-2 Identify and account for the difference between the absolute and relative changes in worldwide smartphone sales by Symbian OS during the same period. [2] Pick out difference + give reason Absolute sales by Symbian OS increased while its market share fell. [1] This is because even though Symbian OS enjoyed increase in sales over this time period, the rival OSs experienced even greater increases in sales OR The total sales by all OSs increased faster than sales by Symbian OS. [1]

(c)(i)

Describe the type of market structure that the smartphone OS companies operate in. [2] Oligopoly. [1] The market is dominated by a few OS companies, such as Symbian, Research in Motion, Android and iOS, each having a significant share of the market. [1] [high concentration ratio] always pick out distinguishing feature

(ii)

In the light of the data provided, evaluate the claim in Extract 1 that the best outcome is a continuing battle among the operating systems in this market. [8]

continuing battle competitive oligopoly market best outcome perspective? Is there a better outcome?

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Desirability? Argument Perspective

Consumer Thesis

Competitive Oligopoly?

Anti-thesis

Producer

Ditto

Indeed, the best outcome is a continuing battle. If the market for mobile phone operating system were to consolidate quickly or go down the same route as PC operating systems, which wound up being dominated by Microsoft Windows, the result would probably be less innovation. And it is by innovating rapidly that the mobile phone industry has the best chance of weathering the oncoming recession. Argument: best outcome due to: benefits to both producers and consumers (other extracts) Counter-argument: not the best outcome due to detriments to both producers and consumers better outcome: consolidated market with a dominant firm a better outcome Benefits to producers: higher profits as a result of innovation Product innovation and development o Innovation would lead to better OS, which would spur DD despite the oncoming recession due to strong preferences from consumers higher TR o Ability to capture greater market share and grow in size (iOS, Android, RIM) more EOS explain 1 EOS and give example (managerial/technical) lower LRAC further able to lower price Process innovation o Lower cost for firm with more efficient production techniques

higher TR and TC would lead to greater profit for the firm.

Benefits to consumers: Product innovation and differentiation: better range of better quality OSs to choose from.

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lower prices if producers choose to pass their cost savings (due to EOS and better production methods) to consumers

Detriments to producers: extended competition may discourage innovation and release of new products if high fixed cost of innovation cannot be recouped [detriment to consumers?] o rapid pace of release of new products by rivals will make demand for new products more price elastic firm cannot afford to charge a high price to earn higher TR excessive competition can drive firms out of the market, resulting in consolidation of market as stated in extract [detriment to consumers?] o resulting from price wars excessive competition lead to wasteful advertising high costs and wastage of resources Consolidated market with a dominant firm (monopoly) may be a better outcome:

Monopoly has greater ability than oligopoly to innovate:

stronger market power + more price inelastic DD higher TR and greater profits higher financial ability to engage in research and development (R&D) may not have less incentive than a competitive oligopoly due to market contestability (threat of potential entry of new smartphones)

Conclusion:
best outcome is a competitive oligopoly in the short-run, although consumers will likely benefit more than producers In the long-run, a continuing battle could lead to wastage of resources and a consolidation of the market due to exit of firms that are unable to compete However, a consolidated market could result in more innovation due to greater financial ability to innovate Knowledge, Understanding, Application & Analysis Developed discussion considering the L3 Benefits of innovation to producers and consumers. Incentive and ability to innovate. Developed discussion considering the Benefits of innovation to producers and consumers. OR Incentive and ability to innovate. L2 Undeveloped discussion considering the Benefits of innovation to producers and consumers. Incentive to innovate. L1 Smattering of valid points with no reference to context

7-8

4-6

1-3

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(d)

Assume that you are the product manager of a handset maker. Propose strategies that will help your company to successfully compete in the market for smartphones. Justify your answer. [10] Possible strategies in extract? Economic framework?

Competition: Price and non-price strategies

Identify strategies + explain using economic analysis link to impact on firm in terms of TR or TC and resulting profits Introduction: firm should focus on non-price strategies such as product differentiation or advertising, rather than pricing strategies Why:

Competitive oligopoly where firms are mutually interdependent if one firm chooses to reduce price, other firms follow to retain market shares Likely to trigger a price war price wars can lead to prices falling below AC and firms earning subnormal profits

Instead firm can engage in product differentiation or product promotion (advertising) Product differentiation Cite examples in extract such as Makes demand more price inelastic and firm is then able to raise price and increase TR Reduce XED value with respect to competitors such that competitors pricing strategies (reducing price) have minimal effect on DD for product Can also increase DD and increase TR should consumer tastes and preferences change towards ones product increase market share like Android and RIM vis--vis Symbian Continued innovation and product development (for e.g. updating of OS) is important to keep demand for good price inelastic + sustained high DD in competitive oligopoly Limitations: Product differentiation incurs a high fixed cost impact on profits? Product Promotion Advertising to create perceived differences between ones product and rivals Economic effect is as above Limitation: depends on success of advertising campaign and whether rivals in turn advertise Finding a niche market Developing a product for students or elderly-friendly (low-end and cheaper range) Unique product results in a very price inelastic demand
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Limitations: Difficult to find a niche market Barriers to entry may not be high given that rivals already have relevant technology know-how easily copy and produce a similar product Cooperation with firms producing complementary goods Importance of complementary goods on smartphones such as applications Cooperate with App developers to feature unique Apps on smartphone form of product differentiation Cooperate with particular mobile phone service providers to provide discounted price plans bundled with smartphone reduction in price of price plan can result in more than proportionate increase in Qdd for smartphone given close complementarity Tying products together consumers must use relevant apps for particular phones Bundling complements such as Apps Increased DD for Apps will also result in increased DD for smartphone for e.g. popularity of iPhone Apps result in high demand for iPhones. Limitations: such practices could be considered illegal govt may intervene Knowledge, Understanding, Application & Analysis Developed proposal on both product development AND product L3 9-10 promotion with justification and limitation Developed proposal on both product development AND product promotion with justification. L2 OR 5-8

L1

Developed proposal on either product development OR product promotion with justification. Smattering of valid points 1-4

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