Kevin Tofel of GigaOM recently posted a self-appointed rant about Verizon’s announcement to carry the Samsung Galaxy Tab 7.7 LTE for $499 on a 2-yr contract. The crux of his distaste is that carriers continue to offer Android tablets on contract while the iPad is available without contract.
As he has demonstrated on UNTETHER.tv, it’s obvious that Kevin Tofel is a smart guy. But there seems to be a biased view of the mobile hardware-pricing model from the blog community, which is apparent in Tofel’s rant. Kevin is correct: he paid a premium purchasing his device outright, and other customers won’t make the same purchase decision as he did and pay full price. However, there is a disconnect here between the cohort of customers who will pay a premium for smartphones and tablets (i.e. people like Kevin) and the average Joe/Jane customer. The value these two groups place on mobile products is not the same.
In order to incentivize the Joe/Jane customer segment (i.e. the majority of customers) to spend money on something they theoretically do not need, Verizon and other telcos have to implement contract models that bring in a ROI to justify subsidy on the hardware. These customers are usually upset with contracts because they are in the dark on the economic concept of hardware subsidy and don’t understand that the unadvertised price of an iPhone is not $200, but actually closer to $700. At the end of the day, the average customer cannot afford to drop ~$700 on their iPhone. But like everything in life, people want to have their cake and eat it too.
Contrary to popular belief, telcos are not in the business of making money on hardware, as I highlighted in my January post commenting on the billion dollar losses posted by Verizon and AT&T mainly due to iPhones subsidies in 2011. Any margin made on hardware for telcos is used to cover the cost of commissioning the sales reps, the retailer/dealer, brand packaging/sleeve for SKU placement and tagging, shipping, logistics and inventory efforts and customer service support teams that help customers connect a device they do not know how to use. In the case of iPhone, the telcos have clearly been badgered by Apple to sell at a price set to meet aggressive inventory purchase agreements that isn’t particularly yielding a break-even cost.
In his article, Tofel published a tweet suggesting that Verizon should subsidize the device to the tune of $500 and sell the Samsung Galaxy Tab 7.7 LTE for $199 on a 2-yr contract. The business case on that price point would come back negative for Verizon. Although these devices bargain at almost the same outright cost as an iPhone or Android smartphone, they are data only activations, and thus the monthly profit (ARPU) isn’t going to be as much. Therefore the amount of money set aside for subsidy is less, as the length of time to recuperate what was invested is longer. I don’t see customers having much of an appetite for a 4-yr contract to get a tablet for $199.
Android tablets priced like iPads won’t sell
Ultimately, what we have here is the reality that Android tablets are not the same as the iPad. When customers have the choice between an iPad and an Android tablet, they buy the iPad in droves. So what would happen if Android manufacturers like Samsung et al priced their tablets comparable to the iPad? They would price themselves right out of business.
While Android manufacturers may feel they are building a comparable product to the iPad, the “go to market” structure of a hardware launch for Android manufacturers is not as sophisticated as Apple. Mainly I am referring to the retail sales and marketing channels in place for Apple’s iPad just cannot compare to the channels available to other tablets. The reason why you will never see 3G/LTE Samsung tablets available to customers without contracts is because Samsung doesn’t have their own retail channels/stores like Apple. Yes, they have the electronic retailers like Best Buy etc. who already sell their TV’s etc. But without having their own customer facing retail locations, Samsung doesn’t have direct access to their customers, and thus doesn’t have the same reach as Apple.
Because of this, Samsung needs the telcos and the telcos need Samsung. The telcos took on Samsung’s Android tablets because they needed something to help with the data consumption run rates, and would sell the iPad with contracts if they could. At the same time, the telcos need to use contract pricing to be able to advertise an appealing price point for Android tablets. Apple, however, doesn’t really need anyone. Apple had no interest in selling the iPad using the carriers, because it knows it can achieve greater profit margins at the ~$700 price point for their product. As with most things, Apple prefers control over cooperation.
Tofel is therefore incorrect to state “shame on Samsung for not negotiating a contract free price.” It’s the hardware manufacturers that dictate the cost of the hardware, not the telcos. The telcos negotiate a price that will help sell the product based on all the other products they are featuring for the sales quarter. It’s actually shame on Samsung for thinking they can charge the cost of an iPad for their product, and thank you Verizon for offering customers a way of getting this (or any) tablet cheaper.
Price point isn’t the only thing Android manufacturers need help with
Samsung could have offered a contract free tablet, but how the hell would Samsung sell it? There would have been little incentive for the telcos to carry the hardware, when it is unlikely to sell at a price comparative to the iPad, only to be burdened with unmovable inventory. Samsung doesn’t have the retail channels in place to compensate for a lack of telco sell-through, as big box retailers simply are not enough. Apple also has a competitive advantage in this sales channel with its own dedicated retail floor space clustering their products at retailers such as Best Buy. As a result, Samsung needs to get its product through the door of every wireless dealer and telco branded retail store across the country. They needed every retail outlet possible to even dream of making a dent in the tablet market.
Not having the budget or advertising channels in place to compete with Apple, Android tablet manufacturers also benefit from partnering with the telcos to help promote their product against an iPad saturated market. Apple product launches are international events that receive excessive media attention (even down to small details like product name). Android manufacturers do not have this luxury when it comes to their products, and are happy to piggyback on the telcos national ‘hero’ campaigns. The telcos are happy to promote the Android platform, as they don’t pay as much per Android device as they do with Apple.
iPad is here to stay, as No. 1
If Android manufacturers want to charge the same cost as Apple does, they better be as big, bad, and dangerous as Apple. Until Android manufacturers have the sales and marketing channels to push their product into the marketplace with the same force as Apple, they’re reliant upon the telcos for assistance.
As Tofel suggests, the abolishment of contracts for Android tablets just won’t happen in the near future as long as Apple has a stronghold on the tablet market. There is no incentive for the telcos to carry a device that doesn’t have the potential sell at full price. As a result, they would be going out of their way to accommodate a product in a limited line up that would not have the potential to maximize activation rates.
At this point, the iPad pricing and uptake rate is so baked into what customer believe is fair, Android manufacturers like Samsung have no choice other than to bow out and use the resources they have available to stay relevant and be able to compete against Apple in the tablet market place.