How Will Major Industry Shifts Impact Windows Phone?

I love Windows Phone, and I was happy to see Microsoft's smart phone platform show strong growth in 2013. But Microsoft still has a long way to go before Windows Phone can successfully challenge iPhone, let alone the Android market leader. And with an ever-shifting wireless market, it's unclear how much the competitive landscape will change in 2014.

I discussed Windows Phone's many successes last year in Windows Phone Turned the Corner in 2013, and my bullish take on the platform's performance has been borne out by the fact that Windows Phone outsold iPhone in 24 markets around the world—including major markets like India and Mexico—and is now the number two smart phone platform, behind Android, in 14 markets. But this time around, I'd like to look at some of the changes that are sweeping the industry this year and how these changes might impact Windows Phone.

There are several, but here are the two I think are most relevant to this discussion, plus a third issue that is specific to Windows Phone.

Inexpensive, unsubsidized phones

Whatever gains Windows Phone made in 2014 can be attributed to a single major factor: The success of inexpensive, unsubsidized handsets like the Lumia 520, 521, 525 and 620. These devices now account for almost 60 percent of all Windows Phone 8 handsets currently in use, and it's fair to say that 2014 would have been a very different year without such handsets.

But the rise of low-cost phones like these raises a few issues.  

First, and most obviously, they're not hugely profitable (if it all). Yes, market share gains are important, but if you're selling x number of devices and losing $x per device, volume doesn't equate to success.

Which leads us to issue number two: High-end Windows Phone handsets—the Lumia 925, 928, 1020 and 1520, primarily—simply are not selling. So while I may believe these devices to be superior, that opinion is not being replicated in the real world where actual consumers are buying the Samsung Galaxy S4 and Note 3 and the Apple iPhone 5S instead.

Windows Phone's inability to compete in the high-end of the market is troubling because that's where all the money is made. It's like a skewed version of the luxury segment of the car market. So while Nokia is selling all the Toyota Tercels it can make, Apple is selling even more BMWs and reaping a huge financial windfall.

When you compare the smart phone market to the PC market before it, you may be calmed by some notion that Microsoft can at least win (or at least be competitive in) a volume/low-cost segment of the market, and leave the high-end of the market to Apple. But this isn't working either.

Google has been selling its Nexus-branded handsets (and tablets) for a few years now at relatively low, unsubsidized prices. The current handset, the Nexus 5, is not hugely expensive at $349 and is an excellent device. Indeed, I've described it as the first Android-based handset I feel comfortable recommending. I'd be happy to use this device every single day.

But Google also owns Motorola. And Motorola is now selling two inexpensive, unsubsidized devices, and these really hit Windows Phone where it hurts. The Moto G is a mid-market device, meaning it's higher-specced than the Lumia 520 and derivatives, and it costs just $179 sans contract. And the high-end Moto X, which was previously available only in subsidized form or for very high prices unsubsidized (like the iPhone 5S and other high-end phones) is now available for just $399 sans contract. This is a seriously important phone in that it comes with a number of real innovations, and by hitting a low-cost, unsubsidized price, Google/Motorola has given it a real competitive advantage.

A $99 Lumia 52x is still less expensive than the Moto G, yes. But with a price differential that low, fewer and fewer people will be tempted to at least try Windows Phone, just for the cost, since they can now get the smart phone platform they already want for a bargain price. And when you consider that nothing is stopping other phone makers from trying the same strategy—indeed, the Moto G/X pricing strategy all but assures this will happen—Microsoft's tenuous hold on the low-end of the market—which, again, was already unprofitable—could very easily fall apart in 2014.

Contract-less wireless plans

There's another revolution sweeping the wireless market, especially here in the United States, where expensive monthly fees tied to two-year contracts are the norm. T-Mobile, recently an also-ran against the dominant Verizon and AT&T Wireless juggernauts, made huge inroads in 2013 by plotting a different course. It did so by ceasing to require two-year contracts and by spreading the cost of high-end, subsidized phones over multiple payments. It eased data plan and international costs significantly. And most recently, it started offering to pay wireless termination fees from other carriers so users could switch more easily.

In short, T-Mobile is pushing the US towards a model that is prevalent in many other markets, where users only pay for the services—voice, text, data—that they actually use and are no longer encumbered by two-year contracts that are designed to keep prices high and users where they are.

This change will impact all types of smart phones—entry-level, mid-market and high-end—and means that the range of choices that users have will expand. As with the related move to inexpensive, unsubsidized phones, this change—which will have an even wider effect—means that Windows Phone is less competitively viable.

Today, one can make a great case for the Lumia 520 (or similar) on a month-to-month AT&T GoPhone-type offering, compared to more expensive subsidized Android phones or iPhones on a normal wireless contract. But with these types of offerings being made more broadly available, Windows Phone will have more competition, and it's coming from the parts of the market—mid-market and high-end—where it already does not compete effectively.

Put simply, the other half of the Lumia 52x value equation is that it can be had with low-cost plans. But with more and more phones being made available via lower-cost plans—not just low-end phones but the phones people really want—such an option is less interesting. Most consumers would pay a bit more to get an Android handset or iPhone on a month-to-month plan.

Nokia

As I noted in Windows Phone Device Stats: December 2013 recently, Nokia is now responsible for over 92 percent of all Windows Phone handsets in use, meaning that the Windows Phone market is basically the Nokia market. But of the high-end phones that Nokia released between October 2012 and the end of 2013, only two—the Lumia 920 and Lumia 925—are even in the top 10 (from a usage perspective). (And only one, the Lumia 925, was released in 2013.) So Nokia, which accounts for virtually all Windows Phones sold, can only sell low-end devices.

We know this is a problem because Nokia agreed to sell its devices and services businesses to Microsoft, and because we have access to Nokia's quarterly financial reports, which break out its device selling performance. That is, Nokia doesn't make any money selling Windows Phone handsets. And Nokia is the only company selling Windows Phone handsets.

That Nokia pretty much had to sell itself to Microsoft or attempt yet another turnaround and perhaps adopt Android is obvious. That Microsoft had to purchase Nokia or watch its smart phone platform disappear overnight is likewise obvious. But what I'd like to think about, a bit, is how this move will impact Windows Phone.

And there are only two ways this can go.

The first and more desirable outcome is that Microsoft treat the Nokia hardware and services business it is acquiring as something that is essentially a standalone business that operates outside the normal Microsoft organization. Something like Skype that appears to work by its own rules. This structure, which would permit that part of Nokia that will now be owned by Microsoft to work as it did before, has a chance to succeed if only because of the massive financial backing of its parent. It would let Nokia continue doing what it does oh so well, but without the fear of death hanging over it.

Of course, that's not going to happen. Because the second and more probable outcome is that Nokia is split internally at Microsoft, with parts being sent to different parts of the company. The services bit could end up in Microsoft's sprawling online services business and be tasked with porting its wares to other Microsoft platforms, perhaps. The hardware business—which includes the Windows Phone-based Lumia devices, of course, but also Asha and the Nokia-branded "dumb" phones—could be pushed into the Devices business that Stephen Elop will run. And so on.

This latter change would in effect create a huge period of uncertainty and settling in at precisely the moment that Microsoft cannot afford it. This is very worrisome, especially when you consider that Microsoft's already over-stuffed employee ranks will swell by a full 30 percent, from 100,000 employees to 130,000. I'm just not sure how Microsoft could absorb Nokia and not screw up the things that are special about Nokia.

I really want to be wrong about this one, but ... I worry. It's what I do.