Month: May 2008

The iPhone has created a revolution and has changed the mobile landscape significantly more than any other handset. Surprisingly, it is not its amazingly user-friendly UI, ultra cool design or the ease of integration with iTunes. It is the revenue model that redefined the business dynamics between handset manufacturers and mobile operators. Other manufacturers are now trying to follow the same path.

Apple has been offering the iPhone exclusively through four selected mobile operators in Europe and US, after having negotiated revenue share agreements. Mobile operators have agreed to give much more to a handset manufacturer than they usually do: AT&T has been rumoured to be giving $150-200 back to Apple for each iPhone plus a percentage of monthly revenues from the subscribers that have signed up for an iPhone contract. Orange, O2 and T-Mobile are expected to have signed similar agreements. A back-of-the-envelope calculation yields the following:

Addressable market (1Q 2008):	153 million users
Market penetration:	3-5%
Shipped iPhones (1H 2008):	4.02 million
Revenue per iPhone sold:	$153
iPhone Published revenues (1H 2008):	$619m

Apple is the only manufacturer that could demand this from mobile operators and get recurring revenues. By doing so, mobile operators have access to high spending customers (in essence, this is a form of negative Channel ARPU – read previous post).

So can Apple do the same with the new version of the iPhone? First of all, lets look at how you could, can and will be able to get your hands on an iPhone.

How you could get an iPhone
From its launch until April 2008 and if you lived in the US, France, UK or Germany, you could walk in an operator retail outlet and sign up for an agreement and get an iPhone. Or you could go to an Apple store, buy an iPhone (the 16GB version was sold in both operator and retail shops for the same price) and activate it through iTunes, where you had to enter a contract to activate your iPhone.

How you can get an iPhone
From April 2008 until today (May 2008), Apple stores list all iPhones as unavailable (in all countries where it has been previously sold). If you currently want an iPhone, you can only get one from an AT&T store (but you need to be an AT&T customer or sign up).

How you will be able to get the iPhone 3G
Instead of having exclusive agreements with few operators, Apple has signed blanket deals with operator heavyweights: Vodafone, Orange and several others. In parallel, Apple is expected to be selling the iPhone 3G in retail shops without getting mobile operators involved (yes, this has happened in Germany but the iPhone has been selling there at €1000 – just to conform with legislation).

What has changed?
Apple may have realised that exclusive deals with mobile operators may provide sustainable high-margin revenues but at the same time this limits the scale of volume shipments due to the smaller number of exclusive agreements possible. The original iPhone revenue model has been disrupted by unlocking and shipping to grey markets (1 million iPhones are reported to have bypassed the activation process) which has deprived Apple of its recurring revenues. Nevertheless, the iPhone ecosystem includes iTunes and even unlocked iPhones can generate revenues for Apple when a user buys content through the online shop.

Why has Apple changed its strategy?
Apple may have realised that singular, exclusive agreements cannot provide significant revenues. In order to bring in more revenues, higher volumes are necessary and possibly smaller revenue shares in order to lure mobile operators. By doing so, Apple can get access to a much larger addressable market, have a larger market share even if the profit margins are not as high as those of the original iPhone. Apple may have learned its lesson: restricting user choice is not a good thing and users are most likely to find a way to get their hands on an iPhone.

A sign of the new strategy is that the iPhone is not available in Apple Stores (where a user can buy it and unlock it) but only in AT&T where you need an agreement with the operator to buy one. Apple may have ran out of stock but I find it quite unlikely that the manufacturer goes out of stock before the mobile operator. Apple may be creating a new market for its new iPhone 3G – the retail environment where anyone can just walk in and buy an iPhone with no strings attached. I suspect that the iPhone 3G will be selling in many markets without a contract – or with a contract and subsidized.

Lets assume that Apple will make a modest $50 on each iPhone 3G sold and that iPhone penetration will remain at 3-5% (both are likely to be higher). Total revenue from iPhone sales for 2H 2008-1H 2009 can be estimated as:

Addressable market (2Q 2008):	575 million users
Market penetration:	3-5%
Expected shipments (2H 2008-1H 2009):	23 million
Revenue per iPhone 3G sold:	$50
Estimated iPhone 3G revenues (2H 2008 – 1H 2009):	$1.15bn

I would argue that the iPhone 3G will cause a bigger revolution in the mobile market: it will expose its design, UI and software to a much larger audience and increase pressure on other OEMs to develop more advanced software and UIs (see the S60 Touch UI, Sony Ericsson XPERIA, Nokia Tube, Philips X800, HTC Diamond). I guess we will all have to wait for WWDC for Steve to pull one of his usual product releases. The iPhone 3G is suspected to be made available shortly after, so I will hold my breath until then.

– Dimitris

[how are the revenue models changing in the mobile industry? Research Director, Andreas Constantinou introduces Value Quadrants, a tool that deciphers the multitude of revenue models and maps how value creation is changing in mobile].

Revenue models in the mobile industry are in a state of constant flux; the business models that used to work two years ago do not apply in today’s market.

Take for example content; the sale value of content is constantly decreasing as sideloading and PC-loading are becoming the norm route to get the latest ringtones and wallpapers. In 4Q07 m:metrics reported that the percentage of subs buying a ringtone fell consistently over 12 months in UK, France, Germany, Italy and Spain. The value is in content remixing and communication (see our Mobile Megatrends 2008 presentation).

After the years of investments in content megadeals and next-gen services, it’s pure bits that count. Some mobile operators are making more money from data traffic than from content and premium services – for example in 4Q07 Telecom Italia’s mobile service revenues were made up from mobile browsing (6.1%), content and premium services (5.3%) and messaging (12%) according to data from Informa’s Mobile Communications Europe.

Mobile software is also changing fast as a business; Per-unit royalties are rapidly disappearing in favour of per-activation, per-user and ad-funded revenue models.

At VisionMobile we are often involved in strategy advisory projects; ‘where should I go next’ is a typical question asked by clients and as a result we ‘ve developed a model that demostrates how value creation is changing in the mobile industry.

Introducing Value Quadrants
Value Quadrants maps value creation and revenue model changes by asking WHEN and WHERE is value being created. The WHEN of value creation is function of the handset lifecycle, from design, development and production (pre-sales phase) to point-of-sale and in-life use (post-sales phase). There WHERE of value creation is either on the device (hardware, software, patents and industrial design) or on the services ‘cloud’ (for designing and delivering content and services).

Each quadrant that is formed corresponds to a distinct type of value creation, as shown below. Starting from bottom left and moving clockwise:
– On the bottom left quadrant, value is created from intellectual property (hardware, software, patents and industrial design) during handset creation, development and production – examples include Nokia, Android, Flash, IDEO, Qualcomm and Cibenix.
– On the top left quadrant value is created through tools licencing, i.e. tools for building and managing software, content, UIs and services – examples include Adobe, Teleca and Trolltech.
– On the top right quadrant value is created from infrastructure (hardware and software) used to deliver services – i.e. to view, edit, share, buy and deliver software, content, UIs and services in general – examples of companies in this space are Vodafone, Nokia (Ovi), Google, Admob, Bango and Logica CMG.
– On the bottom right quadrant value is created from monitoring and activation of on-device assets- in other words from monitoring usage of devices, software, content, UIs and the network. Examples are Carrier IQ, m:metrics and Bluestreak.

Mapping revenue models with Value Quadrants
Value Quadrants become more interesting when you observe how revenue models change across quadrants. Starting from bottom left and moving clockwise:
– Pre-sales, on-device revenue models are typicaly per-unit royalties, per year maintenance fees and per-project fees (NREs, platform porting fees, etc)
– Pre-sales, service-related revenue models are tools licensing, i.e. per-developer-seat or per-CPU, as well as per-year support contracts.
– Post-sales, service-related revenues come from usage fees (per-user, per-active user, per-use, per-level), subscriptions or advertising fees (CPC or CPM).
– Post-sales, on-device revenues come from activation of on-device software and from monitoring and analytics for device/network performance and usage monitoring.

Understanding revenue model changes in the mobile industry
Last but not least, Value Quadrants can be used to map revenue model changes in the mobile industry. The sale value of on-device intellectual property is constantly decreasing – this applies equally to handset average selling prices, hardware platforms, and software. It’s no secret that with operating margins of the order of 8-12% handset OEMs are finding it tough to survive and invest in R&D. Moreover, in the case of embedded software, the sale value is dropping, driven by 5 market forces;
– Linux, which is commoditising the OS kernel
– WebKit, which is commoditising browsers
– Android which is commoditising Java and the whole OS space,
– Mediatek, which is commoditising the business of hardware & software reference designs and
– Flash, which is commoditising rich content platforms (see Adobe’s April 08 announcement for zero royalties for Flash Lite).

Furthermore, industrial design firms have also been under pressure in the last 3 years, as OEMs and even ODMs (e.g. Flextronics, Lawton & Yeo) have been developing in-house ID divisions.

The only type of value that is sustainable is essential patents; which is where both Nokia and Qualcomm have a stronghold. The LTE cross-licensing pact between Alcatel-Lucent, Ericsson, NEC, NextWave Wireless, Nokia, Nokia Siemens Networks and Sony Ericsson is another testament to the importance of essential patents, which can easily command 5% or more of the handset wholesale price. I would argue that essential patents are the most sustainable source of revenue for the handset industry in the foreseeable future.

So where is value creation migrating to ? The answer is simple: to the remaining 3 quadrants. For example:
– Adobe has been aggressively subsidising Flash Lite (2% of Adobe’s revenues) in order to drive sales of its industry-leading tools. Microsoft has been following a similar strategy for its mobile division, investing cash to its hemorrhaging Windows Mobile platform for years in order to drive Visual Studio and Office sales; same for BREW and Qualcomm’s QCT (chipset) and QTL (licensing) businesses.
– Google has invested in acquiring Android and developing the OS in order to multiply the advertising inventory that will boost its post-sales ad business. Nokia’s Ovi will also rely on Trolltech’s Qt as a service substrate, in which Nokia invested over 100 million euros. Nokia’s whole mobile organisation is in fact banking on Ovi as the vehicle to transition Nokia from a manufacturing and software development business into an internet services business.
– Mobile software vendors are flocking away from per-unit royalties into per-activation fees, as network operators are more willing to invest in revenue share opportunities rather than up-front licensing fees; Bluestreak is a such an example of software vendor in what we see as the rule rather than the exception in mobile software revenue models. Moreover, a new revenue stream is emerging in the form of monitoring device, network and service usage (and the subject of a VisionMobile report on Mobile Service Analytics that is due to launch soon).

Value Quadrants are discussed extensively in a forthcoming VisionMobile report titled ‘Mobile Business 2.0: Opportunities for business model innovation in the mobile market’. For additional insights into the migration from data ARPU into Channel ARPU see also the article Making money on the last mile: introducing Channel ARPU.

Comments welcome as always.

– Andreas

[How do open source communities work? Research Director Andreas Constantinou discusses how community dynamics can be mapped and better understood].

Open source is becoming a very hot topic in the mobile industry. Apple’s WebKit has disrupted the mobile browser business. Mobile Java has gone open source by Sun, Motorola and Google. Linux is the new way to build an in-house OS that combines low ownership cost with roadmap control. Last but not least, Google is commoditising the OS business with Android.

Handset OEMs are using Linux and browser open source components – and those that don’t will unavoidably do soon. Mobile operators are considering use of open source for next-generation service delivery via WebKit. Software vendors are realising they need to figure out how to exploit the many open source projects out there and even use open source as a key component of their strategy (see Funambol, Volantis, Sun, Trolltech, Mozilla, …).

However, open source is a very complex subject matter, particularly relating to the undocumented business models, the diversity of open source cultures, the complexity of open source licenses, current best practices and case studies on how are mobile industry players exploiting open source to make or save money.

Mapping open source community dynamics
Understanding open source communities is one of the most fascinating topics. Communities are defined by two major attributes:
– the type of license: a license is primarily characterised by the strength of the copyleft obligations (how use and modification rights are passed on along with the code).
– how contributions are managed and accepted: code contributions into open source project can be managed loosely, by a moderator, by members-only or even by a single commercial entity.

To compare the dynamics of popular mobile open source communities, the next chart maps 11 such communities based on these two attributes – listed are the Linux kernel, GTK, Maemo, Mozilla, Eclipse, Funambol, LiMo, Qt, Java phoneME, WebKit and Android. The chart is from VisionMobile’s 360 degree workshop on mobile open source.

For an updated version of this chart see the article Mapping open source into mobile: who, where and how.

Two patterns emerge by observing this chart.

Firstly, weak copyleft licenses are most popular in open source projects used within the mobile industry – this is in contrast to non-mobile open source projects, where around 50% of total projects use a strong copyleft (i.e. GPL) license.

Secondly, open source communities are anything but the ad-hoc formed, loosely-coordinated, grassroots movements formed around altruist developers working for free. Most successful open source communities are sponsored by commercial entities, and several are controlled by single companies. WebKit is perhaps the most striking example; while WebKit browser core components are used by Nokia, Adobe, Google and Motorola under a LGPL license, Apple is effectively in control of the main source code branch, based on the gravitas of Apple’s contributions and the cost of maintaining a fork away from the tip of the tree.

Perhaps an even more interesting observation is that there is no ‘secret recipe’ on what makes a successful open source community. It’s all a question of not just the license type and governance model, but the overall mix of attributes forming the open source business model, including how the bridge between commercial and community developers is structured and the relevance of the component to ‘scratching a popular ‘itch’.

For clarification, the next table lists that main licenses used in open source projects, their background, their popularity, and IPR category. The table also shows how each license treats modifications and derivatives, and whether indemnities, warranties and patent grants are explicitly provided. The table is again sourced from VisionMobile’s 360 degree workshop on mobile open source.

Thanks to Bill Weinberg, Hal Steger and Quim Gil for their constructive feedback and help in putting together the community map.

Comments welcome as always.

– Andreas