Xiaomi, Not Apple, Is Changing the Smartphone Industry
Determining which customer to target first is one of the most critical decisions in the entrepreneurial process. Customers that are relatively less risky and more predictable can make it easier for new to firms gain a market foothold. One such set of customers is the nascent middle class in emerging economies.Why? First, as their financial situation improves they are anxious to buy new things. Not quite able to afford the top brands, they’re nevertheless willing to pay a little more for something they perceive might be close. Second, because they can’t yet afford the high-margin top brands, they’re not all that attractive to incumbents worried about generating enough cash to cover their high fixed and variable costs. So they exist in a sweet spot from an entrepreneur’s point of view: rich and numerous enough to fuel a start-up’s growth and also poor enough not to spur incumbents to respond.
Xiaomi, the four-year-old Chinese smartphone manufacturer, has found just such a sweet spot, and as a result is taking the smartphone industry by a storm. Pundits claim that Xiaomi is just a Chinese copycat of Apple, and not without some reason. Some point to Xiaomi’s product introductions, which are eerily just like Apple’s. Others point out the strong similarities between Xiaomi’s operating system (named MIUI) and Apple’s iOS. What’s more, Xiaomi’s products rank among the best in the industry in terms of performance. All these cues might lead us to believe that it is competing head to head with the leading smartphone manufacturers.
However, looking at the full extent of Xiaomi’s business model reveals just how different – and how disruptive — it is. For starters, unlike Apple, Xiaomi is not targeting premium customers; it’s mostly teens buying those high-quality phones, and hardly at a premium, since Xiaomi’s prices are at least 60% lower. A neat trick. How does Xiaomi pull that off?
To sell high-quality cell phones at so low a price, Xiaomi keeps each model on the market far longer than Apple does. On average, a new version of a phone is launched every 265 days in the industry – down from 345 days in 2009. But Xiaomi doesn’t renew its product for two years. Then, rather than charge high prices to cover the high cost of state-of-the-art components, Xiaomi prices the phone just a little higher than the total cost of all its components. As component costs drop over the two-year period by more than 90%, Xiaomi maintains its original price, and pockets the difference. So essentially its profit formula is the opposite of Apple’s, which collects its highest profits with the introduction of each model and needs to come up with new model after new model to keep those margins up.
When you consider how much easier it might be to profit from plummeting component prices than from continual new feature development (which sooner or later will likely overshoot the needs of most cell phone customers in any event), the disruptive potential of the model becomes clear.
One might worry that other low-end competitors could easily copy this clever model, and to forestall that, Xiaomi has devised a creative way to create some of the mystique Apple is so justly noted for. Essentially it markets its phones to its price-constrained but status-conscious teen base in much the same way that rock band promoters sell concert tickets. Through an online retailer called Flipkart, potential buyers preregister for a short sales window. They’re required to stay online for at least two hours before the sale starts, and then only the first 20,000 lucky buyers get the opportunity to purchase. Human nature being what it is, after this awful experience, buyers end up wanting the phone even more.
Xiaomi is close to meeting its target of selling 60 million phones in 2014 with a business model well suited to expansion into other developing economies. In a classical reaction to disruptive innovation, the largest smartphone manufacturers were at first not motivated to seriously challenge Xiaomi, since they could not be profitable at the price these customers are able to pay. Now that Xiaomi is becoming a significant competitor, the incumbents are still barely reacting, launching simplified versions of their mature flagship products, as Apple did with the iPhone 5c. But these are perceived as outdated, as newer models, like the iPhone 6, are introduced amid great fanfare in wealthier markets, and often end up being discontinued.
So far from being a copycat, Xiaomi presents a knotty disruptive challenge to the largest smartphone manufacturers. As it continues to expand in developing economies by marketing to the emerging middle class, it remains sheltered from the competition by its margins and the way it makes products profitable. Sooner rather than later, as it continues to propagate its new business model, this disruptive competitor is going to change how this industry works.
How Xiaomi Beats Apple at Product Launches
The iPhone 6 is due in September.
The build-up to its launch will almost certainly follow the Steve Jobs M.O. Device specifications will remain a closely guarded secret until the launch date (unless an employee forgets his phone at a bar). There will be long lines at stores. We probably won’t be able to actually get the product for a couple of months after the launch. And, of course, users (we) will have no input into what we actually get; Steve Jobs’ dictum that “people don’t know what they want until you show it to them” is still an act of faith for Apple’s management.
But is this the only way to launch new products? Let’s think for a second about the risks inherent in this approach. Imagine that something goes wrong and a hardware glitch makes it necessary to recall and/or repair all products (remember the iPhone4 Antenna problem)? Or what if a certain feature or the device as a whole is a complete miss with consumers (think Apple Maps)?
All this secrecy comes at a price, both in the supply chain and by creating a difficult workplace. Consider how many people have to keep the secrets: factory workers, supply chain workers, and retail employees. Current employees will work weeks of overtime and self-employed contractors will be hired in the thousands. According to some media outlets, Apple already announced restrictions for employee vacation in Germany, probably because of the launch. This elaborate planning process is complex, expensive, and risky.
But what is the alternative? In “Why The Lean Startup Changes Everything,” Steve Blank argues for “experimentation over elaborate planning, customer feedback over intuition, and iterative design over traditional ‘big design up front’ development”. Blank’s approach is as relevant to new product launches as to new companies: they are also highly uncertain, with many unknown unknowns.
One of Apple’s competitors is already applying just such an approach to new product launches. Founded in 2010, Xiaomi is one of the biggest Chinese smartphone companies. Its revenues last year were already more than $5 billion — not bad for a three-year old.
Unlike Apple, Xiaomi produces its products in small batches, allowing for easy changes based on user feedback. Every Friday there is a major feature update of the operating system and a round of feedback from expert consumers. Because Xiaomi only sells directly to consumers (unlike Apple, which goes through many intermediaries), the company can collect all this feedback and build it into the next generation of devices.
In essence, the phone you buy this week can be different from what you’ll buy next week. As one example of the benefits of this approach, Xiaomi got its operating system translated into 24 languages by users and the company didn’t spend a dime. User feedback led to the creation of a very different and much more flexible device. Xiaomi allows users to swap the battery, replace a memory card, change case backs, and remove the SIM card.
Don’t get us wrong: we are not saying that Xiaomi has a better product than Apple: they are priced differently and they appeal to different segments of the market. We both use iPhones, not Xiaomi products. But many companies that try to take clues from Apple’s playbook on innovation will fail because they don’t have the marketing clout and brand appeal to push products rather than pull ideas. Further, Apple’s model is driven by the creative genius of individuals like Steve Jobs, who are not easy to find. Without these resources, a company might be much better off following the Xiaomi playbook.
Why have Chinese companies struggled to build consumer brands overseas? The answer has been in large part a failure to meet consumers’ social and emotional needs.
What Job Are You Doing?
For Barra and Xiaomi the “jobs-to-be-done” theory, in particular, is relevant. Many internationalizing companies fail because they pick the wrong jobs; addressing this can save both Xiaomi and other companies money and strife.
The “jobs-to-be-done” theory articulates the gap between how producers view and market a product and how customers actually use it. Every time a customer buys a product, they are trying to do a job that brings some value to them – and not necessarily what the product says on the label. In the words of Harvard Business School marketing professor Theodore Levitt, “People don’t want to buy a quarter-inch drill. They want a quarter-inch hole!”
The jobs that customers want to do have functional, social and emotional dimensions. For example, in buying a can of Coke (as opposed to another drink), I might be addressing 3 jobs:
Li-Ning stumbled because it tried to target low-end customers of Nike, and could not fulfill their social/emotional jobs better than Nike without spending more money. According to the company’s vice-president of digital operations, Craig Heisner, the company struggled after it “went right into a fiercely competitive overseas market going directly against the likes of Nike and Adidas”. Similarly Jianlibao, formerly the number one beverage in China, lost out on a frontal battle along the social/emotional dimension overseas before coming back home to compete with Coca-Cola on functionality (price and taste). Unfortunately, with its lower cost structure, Coca-Cola had the patience to see this sustaining challenge through, and ended up crushing the Chinese brand both domestically and overseas.
The better path for Chinese consumer brands seeking expansion to the West is to focus on consumers not yet in the smartphone market. Instead of targeting current customers of the incumbent (who already have sophisticated social/emotional needs associated to the product), they should target non-consumers with a compelling functional offering and help mold their social/emotional associations. For example, when Honda moved into the US motorcycles market, it found little success in targeting existing American motorcyclists — it was only after it moved to non-motorcyclists that it experienced success in creating a new subcategory. B2B businesses can afford to go directly to the low end (Japan’ steel industry and Korea’s semiconductor industry have achieved success via this route) and compete on functionality, but consumer brands should be more careful unless they have the budget for a long fight. Hence the focus on non-consumers.
Xiaomi’s Challenge
The implications for Xiaomi and Hugo Barra are clear. If Xiaomi chooses to prioritize foreign markets with low penetration of iPhones and high-end smartphones (e.g. India, African markets), the dominant entry strategy is to focus on cultivating the vast pool of non-consumers of high-end smartphones. Xiaomi’s resources should thus be directed towards converting feature-phone users to their phones, or educating a new generation of consumers without phones.
If Xiaomi decides to target markets with high penetration of high-end smartphones (e.g. USA, Western Europe), Barra should take a more patient approach. The first step should be to corner the (relatively small) market of non-smartphone users. The step after that involves seeking out non-consumption instances, e.g. selling Xiaomi software to existing Android users, as an add-on. In doing this, Xiaomi can form a “tribe” of loyal supporters with new emotional and social associations who can provide the platform for a push into the lower segment of the high-end smartphone hardware market. Only with this platform should Xiaomi pursue direct competition for low-end customers of Apple and Samsung. The strategy calls for a measured, careful approach – one that first analyzes the jobs that current non-consumers of high-end smartphones are trying to do (e.g. save money, “simplify my life”) and creates a compelling value proposition for them.
With a valuation of $10 billion after 3 years of existence, Xiaomi certainly has caught the eye of many investors. But as Barra settles into his new role, he might find that getting foreigners comfortable with Xiaomi’s name is the least of the company’s internationalization problems.
The build-up to its launch will almost certainly follow the Steve Jobs M.O. Device specifications will remain a closely guarded secret until the launch date (unless an employee forgets his phone at a bar). There will be long lines at stores. We probably won’t be able to actually get the product for a couple of months after the launch. And, of course, users (we) will have no input into what we actually get; Steve Jobs’ dictum that “people don’t know what they want until you show it to them” is still an act of faith for Apple’s management.
But is this the only way to launch new products? Let’s think for a second about the risks inherent in this approach. Imagine that something goes wrong and a hardware glitch makes it necessary to recall and/or repair all products (remember the iPhone4 Antenna problem)? Or what if a certain feature or the device as a whole is a complete miss with consumers (think Apple Maps)?
All this secrecy comes at a price, both in the supply chain and by creating a difficult workplace. Consider how many people have to keep the secrets: factory workers, supply chain workers, and retail employees. Current employees will work weeks of overtime and self-employed contractors will be hired in the thousands. According to some media outlets, Apple already announced restrictions for employee vacation in Germany, probably because of the launch. This elaborate planning process is complex, expensive, and risky.
But what is the alternative? In “Why The Lean Startup Changes Everything,” Steve Blank argues for “experimentation over elaborate planning, customer feedback over intuition, and iterative design over traditional ‘big design up front’ development”. Blank’s approach is as relevant to new product launches as to new companies: they are also highly uncertain, with many unknown unknowns.
One of Apple’s competitors is already applying just such an approach to new product launches. Founded in 2010, Xiaomi is one of the biggest Chinese smartphone companies. Its revenues last year were already more than $5 billion — not bad for a three-year old.
Unlike Apple, Xiaomi produces its products in small batches, allowing for easy changes based on user feedback. Every Friday there is a major feature update of the operating system and a round of feedback from expert consumers. Because Xiaomi only sells directly to consumers (unlike Apple, which goes through many intermediaries), the company can collect all this feedback and build it into the next generation of devices.
In essence, the phone you buy this week can be different from what you’ll buy next week. As one example of the benefits of this approach, Xiaomi got its operating system translated into 24 languages by users and the company didn’t spend a dime. User feedback led to the creation of a very different and much more flexible device. Xiaomi allows users to swap the battery, replace a memory card, change case backs, and remove the SIM card.
Don’t get us wrong: we are not saying that Xiaomi has a better product than Apple: they are priced differently and they appeal to different segments of the market. We both use iPhones, not Xiaomi products. But many companies that try to take clues from Apple’s playbook on innovation will fail because they don’t have the marketing clout and brand appeal to push products rather than pull ideas. Further, Apple’s model is driven by the creative genius of individuals like Steve Jobs, who are not easy to find. Without these resources, a company might be much better off following the Xiaomi playbook.
Can Chinese Smartphone Darling Xiaomi Compete in Western Markets?
Lei Jun has hired ex-Googler Hugo Barra to head Xiaomi’s international expansion. Barra has his work cut out for him: Chinese companies have had mixed success so far in competing with top Western brands on several fronts at once. For every success (like Huawei or Lenovo), there have been stumbles (like Jianlibao and or Li-Ning).Why have Chinese companies struggled to build consumer brands overseas? The answer has been in large part a failure to meet consumers’ social and emotional needs.
What Job Are You Doing?
For Barra and Xiaomi the “jobs-to-be-done” theory, in particular, is relevant. Many internationalizing companies fail because they pick the wrong jobs; addressing this can save both Xiaomi and other companies money and strife.
The “jobs-to-be-done” theory articulates the gap between how producers view and market a product and how customers actually use it. Every time a customer buys a product, they are trying to do a job that brings some value to them – and not necessarily what the product says on the label. In the words of Harvard Business School marketing professor Theodore Levitt, “People don’t want to buy a quarter-inch drill. They want a quarter-inch hole!”
The jobs that customers want to do have functional, social and emotional dimensions. For example, in buying a can of Coke (as opposed to another drink), I might be addressing 3 jobs:
- Functional: “Enjoying an affordable drink, or quenching thirst”
- Social: “Signaling social status or social inclusion”
- Emotional: “Exercising an emotional connection with the Coke brand”
Li-Ning stumbled because it tried to target low-end customers of Nike, and could not fulfill their social/emotional jobs better than Nike without spending more money. According to the company’s vice-president of digital operations, Craig Heisner, the company struggled after it “went right into a fiercely competitive overseas market going directly against the likes of Nike and Adidas”. Similarly Jianlibao, formerly the number one beverage in China, lost out on a frontal battle along the social/emotional dimension overseas before coming back home to compete with Coca-Cola on functionality (price and taste). Unfortunately, with its lower cost structure, Coca-Cola had the patience to see this sustaining challenge through, and ended up crushing the Chinese brand both domestically and overseas.
The better path for Chinese consumer brands seeking expansion to the West is to focus on consumers not yet in the smartphone market. Instead of targeting current customers of the incumbent (who already have sophisticated social/emotional needs associated to the product), they should target non-consumers with a compelling functional offering and help mold their social/emotional associations. For example, when Honda moved into the US motorcycles market, it found little success in targeting existing American motorcyclists — it was only after it moved to non-motorcyclists that it experienced success in creating a new subcategory. B2B businesses can afford to go directly to the low end (Japan’ steel industry and Korea’s semiconductor industry have achieved success via this route) and compete on functionality, but consumer brands should be more careful unless they have the budget for a long fight. Hence the focus on non-consumers.
Xiaomi’s Challenge
The implications for Xiaomi and Hugo Barra are clear. If Xiaomi chooses to prioritize foreign markets with low penetration of iPhones and high-end smartphones (e.g. India, African markets), the dominant entry strategy is to focus on cultivating the vast pool of non-consumers of high-end smartphones. Xiaomi’s resources should thus be directed towards converting feature-phone users to their phones, or educating a new generation of consumers without phones.
If Xiaomi decides to target markets with high penetration of high-end smartphones (e.g. USA, Western Europe), Barra should take a more patient approach. The first step should be to corner the (relatively small) market of non-smartphone users. The step after that involves seeking out non-consumption instances, e.g. selling Xiaomi software to existing Android users, as an add-on. In doing this, Xiaomi can form a “tribe” of loyal supporters with new emotional and social associations who can provide the platform for a push into the lower segment of the high-end smartphone hardware market. Only with this platform should Xiaomi pursue direct competition for low-end customers of Apple and Samsung. The strategy calls for a measured, careful approach – one that first analyzes the jobs that current non-consumers of high-end smartphones are trying to do (e.g. save money, “simplify my life”) and creates a compelling value proposition for them.
With a valuation of $10 billion after 3 years of existence, Xiaomi certainly has caught the eye of many investors. But as Barra settles into his new role, he might find that getting foreigners comfortable with Xiaomi’s name is the least of the company’s internationalization problems.
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