Cell Phones: The Big Boys Are Back In China
Annie Chen just can't seem to hang on to cell phones. The 23-year-old secretary in Shanghai has lost -- and replaced -- a half-dozen handsets in the past three years. In June she blew more than half her monthly salary of $730 on a fancy Motorola camera phone that includes a Chinese-English dictionary. It's a lot of cash, she admits, but she lives with her parents and can afford to splurge. Besides, she likes to use her new phone to look up words and take photos of her friends. When it came time to choose a phone, Chen didn't even consider any Chinese brands because they didn't offer the features she wanted. "This phone has many options, it's small, and it looks cool," she says.
That kind of talk has a nice ring for foreign handset makers. With more than 300 million cell-phone users, China is a market that the likes of Motorola, Nokia, and Samsung can't afford to lose. They ruled China for years, enjoying a virtual lock on the market until 2000. But since then upstart locals such as TCL Mobile Communication Co. and Ningbo Bird Co. have gained favor among Chinese consumers; last year they made 46% of the phones sold in China. By licensing technology from outsiders, the Chinese were able to focus on selling low-tech but nifty-looking phones that appeal to local tastes, prompting some executives to boast that the future belonged to domestic players. "In China, handsets are more and more about fashion," George Guo, a TCL senior vice-president, said last year. "When everyone's quality is good, what do people look at? Style." (TCL and Bird executives declined to comment for this story.)
But as more and more Annie Chens seek phones with ever-snazzier features, the multinationals are holding the line. This year, Chinese manufacturers are likely to take just 44% of the handset market. Next year that number will probably drop below 40%, according to brokerage Credit Suisse First Boston. The sudden halt in momentum has spooked investors in Bird and TCL. Bird's Shanghai-traded shares are down 29% this year, and TCL International Holdings Ltd., which owns a controlling stake in TCL Mobile, has suffered a 23% drop in its Hong Kong-listed shares.
What's hurting the locals is a growing Chinese appetite for sophisticated phones. Chinese companies have done well with simple units used largely for voice calling, but mainlanders are going upmarket. In July, 82% of the phones sold in China had color screens, up from 31% a year earlier. Camera phones, meanwhile, represented 23% of the market in July, vs. 13% in February, according to CSFB. While Motorola has also seen its market share slip to 14% from 15.7%, the company has compensated by increasing the average price of its phones by 13%, to $237, as it sells more complex models. "Customers are starting to look for more," says Patrick S. Kung, corporate vice-president and general manager of Motorola's handset business for North Asia.
CAVIAR AND CATWALKS
Those fancy phones are tough to manufacture. The Chinese "generally have very weak design capability," says Alison Yip, an analyst with CSFB in Hong Kong. Cameras and color screens require better computer chips and software than do simple voice phones, which have become commodity items distinguished by little more than the shape of their plastic cases. Chinese manufacturers, though, lack the research capabilities of the foreigners. "The domestic handset makers have stumbled," says Ted Dean, managing director with BDA China Ltd., a Beijing consulting firm.
Nokia, for its part, aims to stay ahead of its local rivals. That's one reason the company threw a bash on Sept. 9 in Shanghai's plush Exhibition Center to launch a trio of high-end phones. As more than 350 guests nibbled caviar, grilled watermelon, and truffle pâté, fashion models sashayed down the catwalk showing off new phones costing as much as $625 that include gee-whiz features such as streaming video and MP3 players.
There's more to Nokia's China strategy, though. Even as it stretches the upper limits of the market with the fresh phones, it's also shoring up the low end. In April the Finnish company slashed prices for some models by 15%, to as low as $110. Nokia also has started looking beyond big cities such as Beijing and Shanghai to less-developed markets that had been strongholds for TCL, Bird, and smaller Chinese players such as Amoi and Soutec. Eighteen months ago, Nokia had just four offices throughout China. Today it has 50. "It took a number of years to respond" to the Chinese threat, says Colin Giles, Nokia's senior vice-president for sales and marketing in China. "But we have leveled the playing field."
Asian manufacturers are dialing up hefty gains in China, too. Crucial to the early success of the domestic brands were limits Beijing placed on the number of newcomers from abroad. Now the government is easing the restrictions, and the neighborhood rivals are coming on strong. Samsung's market share jumped to 12% in July from 8% in January. Taiwan's BenQ is planning to roll out new phones of its own after selling through a joint venture with a small Chinese player, CEC Telecom Ltd. And in mid-September, LG Electronics said it plans to triple the capacity at its handset plants in China next year, to 30 million phones annually. The Korean company hopes to sell models with cameras, video recorders, and MP3 players to status-conscious Chinese consumers looking to upgrade their handsets. "The replacement market requires more sophisticated phones," says Kim Man Sik, LG's vice-president for telecommunications marketing in China. "There is a preference for foreign brands, particularly at the higher end."
Still, it's too early to write off the home team. After all, almost no one took the locals seriously four years ago, and their success proved skeptics dead wrong. "They've made huge progress," says David Nagel, chief executive of PalmSource Inc., which makes software for cell phones. "I wouldn't be surprised to see in five years a few very sophisticated Chinese players."
A new wild card is the transition to third-generation, or 3G, high-speed networks. Beijing is likely to award 3G licenses next year. Given the complexity of 3G handset production, the transition to the new technology will probably give the foreigners the advantage anew. That means Annie Chen could very well wind up buying another foreign brand the next time she misplaces her phone.
By Bruce Einhorn in Hong Kong, with Frederik Balfour in Shanghai and Andy Reinhardt in Paris