September 2005 Early Indications II: Vendor Tectonics

The following headlines were selected from the News.com website on Monday September 26:

-Cingular to launch music download service in 2006
-Verizon switches on TV service
-Intel launches WiMax trials in Asia
-T-Mobile to invest in 3G in U.S.
-Google confirms it's testing wireless service
-Verizon Wireless teams with notebook makers

Couple these tidbits with eBay's purchase of Skype, Sony's massive layoffs and attempted reorganization, and Apple's continuing dominance of the handheld entertainment market, and a raft of questions emerges.

1) Will any company be able to duplicate Microsoft's powerful position in desktop computing as new platforms emerge?

2) Which current industry leaders will be acquirers and which will be acquired in the coming wave of consolidation?

3) What will be the new leverage points that allow hardware, software, or connection vendors to develop tighter customer relationships and presumably higher profitability?

4) What external forces will help shape this contest?

The list of headlines is at once tantalizing and frustrating: familiar vendors are assuming slippery identities. Cingular is a wireless carrier, but now it sells Motorola phones with Apple iTunes software. Will its music service be a competitor or complement to Apple's? Verizon used to be a phone company, then it became a phone plus half of a mobile phone company, and now it's delivering television. But wait: Google is streaming UPN video and Yahoo is delivering both network shows and original video news reports from ex-CNN reporter Kevin Sites.

On the hardware side, meanwhile, Intel used to live in the computing market, but the company remains determined to make an impact in the Lucent-Ericsson neighborhood as well. Verizon is trying to increase adoption of its wide-area wireless midband service by signing deals with hardware manufacturers. Finally, China's emergence as a hardware factory will have major repercussions.

Let's look at the various players in this new "digital home" environment grouped into three buckets: decliners, question marks, and ascenders.

Decliners:
Despite my respect for Howard Stringer, Sony looks to be in a bad way. The Playstation franchise could remain a bright spot, but the company's high prices and slow time to market may be endemic to the culture and thus not fixable, particularly by an outsider. Sony-Ericsson has not shaken up the mobile handset market and the company's proprietary standards (for memory, among other things) swim against the prevailing tide of open standards.

Slow-moving telecoms, as The Economist suggests, will be undone by VoIP. Surprisingly, the magazine's second most vulnerable company, in its heavy reliance on voice revenues, was Vodaphone; other nominees include British Telecom, SBC, and Telecom Italia.

Other decliners, such as AT&T and IBM's PC unit, have already been sold. In the future, players like Paul Allen's Charter Communications, Ericsson, Time Warner, Philips' consumer electronics business, and others could be similarly vulnerable to takeover.

Question marks:
Motorola seems to have been defibrillated by new CEO Ed Zander. The Razr phone has become a must-have, and the Rokr i-Pod phone will bear watching. In the carrier market, Moto's Canopy system is much farther along than Intel's WiMax. Whether the company can compete within a footprint that remains broad (even after the semiconductor unit was spun out) is the big question: can the same company profitably sell home networking, military radios, carrier gear, and smart phones?

Microsoft certainly counts as front-page news these days, with lead stories in both the Wall Street Journal and Business Week. The culture is clearly in transition as Vista has required new ways of writing code and the executive turnover continues to mount. Microsoft also has prime real estate in the current platform, and substantial cash with which to buy a competitor as instant access to new markets. The centrism of the PC to the firm's worldview may be a limiting factor, given how quickly Google has innovated and how prominently smartphones figure in the global market.

Apple has soared on the success of the iPod's excellent combination of hardware, software, and content. But what happens to the computer piece of the franchise? And can the successor to the iPod do the same thing for video? Getting permissions will be harder (and indeed some music rightsholders may successfully renegotiate rates), the network connections will need to be faster, and video viewing -- unlike music listening -- is not a background activity. Getting the interface to be as intuitive and smooth may also be harder.

Nokia has ridden a roller coaster over the past few years as its various phones have touched or failed to touch the nerve of a fashion-conscious public. Revenues have been declining while profit has been highly variable. The company's future depends in large measure on carriers over which it has
limited control, and on usage habits which are similarly fickle. Finally, content providers like Yahoo, Disney, and News Corp may have a large say in the company's fate as phones become TV substitutes.

Aggressive telecom and cable providers have connections to the home or customer that are fast and getting faster. They also have limited control over programming costs, and face competition both from each other (Comcast offers voice even as Verizon offers TV) and from satellite. The list of broadband pioneers also includes Orange, Korea's KT, and Yahoo BB in Japan. Balancing the value brought by a fast connection with content-driven revenues will remain the challenge for these companies.

Ascenders:
Google is clearly frightening the industry. The firm's deep pockets, inventiveness, and sheer technical prowess mean that new product and service announcements can come from any sector of the technology map. (Speaking of talent, Vint Cerf, Rob Pike, Adam Bosworth, and more than 100 former Microsoft developers all work there.) The company has a strong and growing presence on the PC desktop, unsurpassed Linux experience and expertise, deep knowledge of mapping and image searches, testbeds in wireless and cell phone markets, and the attention of smart people all over the world who want to work there. Google could expand its voice chat into full-fledged voice over IP (and become a phone company), or sell a super-cheap network-centric PC running a non-Microsoft OS, or make any of a dozen other bold plays that would truly disrupt existing industries.

Like Google, Yahoo has lots of cash and has been hiring superstar talent. It has more media savvy and focus among its leadership team, and may well morph into more of a Viacom/News Corp competitor than a technology company. As navigating the home page makes clear, however, managing the extreme breadth of services (from driving directions to dating, finance to fantasy football to photos) might become unwieldy.

Samsung is on a roll. The company now has the most powerful Asian brand in the world, surpassing Sony this year, according to Interbrand. The company's displays, memory, and cell phones all hold leadership positions in their markets, and the patent portfolio is strong. Unlike Microsoft or Nokia, Samsung is probably equally comfortable in a wired or unwired universe. Also unlike most American companies, Samsung is well positioned for growth in the developing world including India and China given its geographic presence and price points.

After completely reinventing the economics of the PC industry, Dell has begun moving into adjoining markets: its flat-panel TV prices undercut most name brands by hundreds of dollars, for example. Its MP3 players will never challenge the iPod for design quality, but like the Axim handhelds they continue to improve while maintaining a low price point. To a certain extent Dell stands to gain as a result of Microsoft's heavy marketing in support of Vista next year, but the company is now sufficiently diversified, both product-wise and geographically, that its fates are no longer tied to Microsoft's.

Who's missing:
It's hard to know where to put the companies that will make the digital home possible. EMS providers like Jabil Circuit, logistics companies like Fedex, and component manufacturers including Intel and Synaptics (which makes scroll wheels) all could profit regardless of which of the branded companies win in the consumer market. Infrastructure and business services providers including Cisco, IBM, HP, Oracle, and SAP could similarly benefit, depending on their presence in a given vertical.

Finally, retailers including Best Buy, Wal-Mart, and Dixons stand to benefit if they can master the merchandising and logistics required by rapidly changing, complex bundles of products and services: it will no longer suffice merely to move boxes. The retailers' challenge will soon include such elements as liability for recycling toxic waste like that found in PCs and cell phones, reverse logistics for returns, and serving as a systems integrator for connected systems that to date require considerable expertise to install and manage.

Wild cards:
Government regulation will play an important role is sorting out winners from losers. Rules for broadband competition, copyright duration and extent, and protection of national "champions" (such as telecoms like Telstra or France Telecom with government ownership interest) only begin the list of extra-market forces.

Finally, and most crucially, revenue models are in the midst of a dramatic reinvention. In telecom alone, Skype threatens minute- and distance-based pricing with obsolescence, competing broadband technologies break any natural monopoly that might have existed, and new forms of seemingly peripheral content like games and ringtones play a disproportionate role in determining profitability. Elsewhere, expensive investments in global news organizations (think of CNN) or movie studios (think Viacom) could become boat anchors as their relevance declines in the face of bottom-up alternatives like news blogs or digital moviemaking and distribution.

The ultimate signal of the market's volatility is the reluctance of both consumers and manufacturers to commit to new standards: high-definition audio, high-capacity DVD, and high-bandwidth wireless are only three examples of multi-billion dollar hesitation and disagreement. Until obsolescence is no longer at the top of buyers' concerns, demand will remain inhibited. Paradoxicallly, the current state of messy competitiveness could be Microsoft's legacy: in the absence of a dominant vendor as all the players seek to prevent a leader from emerging, customers lack assurance of interoperability and backwards compatibility, and remain -- intelligently -- tentative.