Xiaomi’s Amazon Tack to IPhone Fight May Mean 3 Years of Losses

Xiaomi Corp., a Chinese smartphone vendor that counts Singapore’s Temasek Holdings Pte as an investor, is ready to post losses for years as it battles Apple Inc. (AAPL) to attract high-end users to its software.

“We are not looking to make any money, or to make Xiaomi profitable, for the next two or three years,” President Bin Lin said in a Feb. 7 interview in Beijing. “We will be able to look at profitability from software and services after we have the user base.”

Xiaomi, whose founder Lei Jun compares his hardware approach with Amazon.com Inc.’s subsidies on the Kindle e-book reader to boost digital book sales, is racing to fill gaps in China not met by Apple’s iPhone. Xiaomi will today start offering a phone for China Telecom Corp. (728)’s network, which Apple has yet to do. Since releasing its first handset in September, Xiaomi has sold 1 million phones online, and won an order from China Unicom (Hong Kong) Ltd. for another 1 million, Lin said.

“Besides Apple, no one else has been able to do that in such a short span of time,” said Hans Tung, who helps manage $1 billion at Qiming Venture Partners, one of the six initial investors in closely held Xiaomi. “It’s a very auspicious start. We believe this team is innovative and fast-moving enough to continue to turn out interesting things.”

Photographer: Nelson Ching/Bloomberg

Xiaomi Corp. M1 smart phones running the MIUI operating system are displayed at the company's headquarters. Close

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Photographer: Nelson Ching/Bloomberg

Xiaomi Corp. M1 smart phones running the MIUI operating system are displayed at the company's headquarters.

Single Carrier

Apple’s iPhone, which has been available through China Unicom since October 2009, is yet to be offered by the nation’s other two carriers. Apple sold 5.6 million iPhones in China during the first nine months of last year, ranking it fourth among smartphone vendors in the country in the third quarter behind Nokia (NOK1V) Oyj, Samsung Electronics Co., and Huawei Technologies Co., according to Stamford, Connecticut-based research company Gartner Inc.

Apple last month moved a step closer to supplying China Telecom when it won regulatory approval for a device compatible with the carrier’s network. Still, neither Apple nor China Telecom has announced a date for sales. Carolyn Wu, a Beijing- based spokeswoman for Apple, declined to comment on when the device will be available, or to respond to Lin’s remarks.

Xiaomi, which means “Little Rice” was founded in April 2010 by Lin, who had previously spent 15 years working for Google Inc. (GOOG) and Microsoft Corp., and Lei. Lei, the chairman of software developer Kingsoft Corp. (3888), also founded the online retailer Joyo.com that Amazon (AMZN) acquired in 2004.

Android Customization

Xiaomi offers a software customization of Google Inc.’s Android operating system called MIUI to allow users to alter the appearance of their phone with fonts, themes, and wallpaper. MIUI has been translated into 23 languages in 16 countries, and has 1 million users globally, one-third of which are outside of China, Lin said. The company also offers the Mi Talk messaging and group chatting application that runs on Android as well as Apple and Nokia devices, Lin said.

All that software is currently free. The company will decide how to make money from its software and Internet services later, possibly involving advertising, Lin said.

The company’s name derives from Xiaomi’s focus on software and applications for the mobile Internet, the English-language abbreviation for which is the same as the Chinese word for rice, mi. The company is pursuing a strategy of integrating its software with a high-performance handset, Lin said.

‘Audi Engines’

The Beijing-based vendor is drawing customers to its smartphones by offering a device with specifications comparable to products offered by Apple, Samsung and HTC Corp. (2498) at a fraction of the cost. Xiaomi’s phone with a dual-core 1.5 gigahertz Qualcomm Inc. (QCOM) Snapdragon processor is priced at 1,999 yuan ($317) on its website, less than half the 4,988 yuan price for the iPhone 4S at Apple’s online store in China.

“Those phones are stuffed with hardware usually found in mid high-end models, but they’re offered at mid-tier handset prices,” said Teck Zhung Wong, a Beijing-based analyst at IDC. “It’s like these phones come with Audi engines but are sold at Toyota prices. And that’s where their value proposition lies.”

A Chinese-language biography of Apple co-founder Steve Jobs is one of the first things a visitor sees on the coffee table of Lin’s office at Xiaomi. Lin said that before founding Xiaomi he was an early adopter of Apple products and bought two iPads, two iPhones and two iPad 2s as each product was released.

Angry customers pelted Apple’s oldest China store with eggs on Jan. 13 when the shop failed to open for the first day of sales of the iPhone 4S, proving there is pent-up demand Apple is failing to meet, said Lin. “I’d probably have been one of them throwing eggs and saying I want a 4S” if he wasn’t busy building Xiaomi, he said.

“See how high the demand is for great products, really top-quality, beautiful handsets,” he said. “There is still a huge market for that. That’s an opportunity for many companies, and Xiaomi as well.”

Foxconn, Inventec

In less than two years, Xiaomi has grown to more than 500 employees, Lin said.

Two months ago, the phone vendor, which has no manufacturing capability of its own, added Foxconn International Holdings Ltd. (2038) as a supplier to help it ramp up output. Foxconn, a unit of the world’s largest contract electronics maker Hon Hai Precision Industry Co., joins Xiaomi’s initial supplier Inventec Corp. (2356) in assembling the devices, Lin said.

Lin said the company is not looking to sell shares to the public “any time soon” and will continue to fund its expansion with venture capital. The company to date has raised $131 million from investors including Tung’s Qiming, IDG Capital, Morningside, Temasek, and Qualcomm Ventures.

Limited Range

To expand its handset business and win share from companies like Apple or Samsung, Xiaomi will have to overcome the current weakness of its limited range of products, said analysts including Wang Ying at Analysys International and Gartner’s Sandy Shen.

“The problem with them is that they are relying on a single model, which wouldn’t help them to get more market share or mind share of the user,” said Shen. “When a new brand or product comes in, they will have a hard time to defend their market share.”

Xiaomi’s Lin said the company is working on a “next- generation handset” to follow the success of its first device. He didn’t offer details on specifications or when it would be available for sale.

“Building just one product is certainly not where we stop,” Lin said. “We have to continue to innovate.”

To contact Bloomberg News staff for this story: Edmond Lococo in Beijing at elococo@bloomberg.net

To contact the editor responsible for this story: Michael Tighe at mtighe4@bloomberg.net

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