Not everyone needs to be Apple, or to do things the Apple way. Apple makes big margins on their $500 hardware. Why can't HP or some other company be profitable by making small margins on $200 hardware, moving a lot of units, and taking a cut of app sales?
I posted this in another thread, but it warrants repeating:
The key factor everyone's missing from a loss leader strategy is that the consumables must be a requirement to use the device. Consoles, razors and printers can all sell for a loss because they are worthless without games, blades and ink. You can get by on a tablet (and I bet a majority of non-tech savvy users do) by just using the built-in apps and/or free apps.
If HP went with this strategy with the TouchPad, it would require that a user spend $1000 on apps to make up for the $300 loss on each TouchPad. At an extremely generous $5/app, that's still 200 apps per user.
Margin is traditionally formulated as the difference between the selling price and the cost of goods sold (“COGS”), basically all of the variable costs required to manufacture the unit and ship it to the customer.
Cost of Good Sold does not include the infrastructure required to get the customer to buy it. So while shipping the unit to an Apple Store might be included in COGS, the rent Apple pays for the store and the salaries of the geniuses in the store are not part of COGS. Marketing expenses are not part of COGS. There’s another value, Cost of Sales or “COS,” that includes certain somewhat fixed but discretionary costs associated with selling the product. COS is always larger than COGS.
Anyways, “margin” is a useful thing to know when comparing products and companies, however we cannot assume that just because Apple has high margins, that there is a business opportunity for someone to have lower margins. It could be that the other business will be killed by their Cost of Sales. This is especially a problem when competing with an incumbent: Marketing and other costs are going to be very high while you try to compete with the juggernaut.
Imagine, for example, that Apple spends $1,000,000 a month marketing to a certain small segment of the market. If you want to sell to the same segment, you are going to need to spend serious coin to offset Apple’s million dollars a month plus all the goodwill Apple enjoys from making products people actually like.
But your sales are insignificant to begin with, so your COS will far exceed any margin you plan to extract, putting you in the red from day one. Meanwhile, Apple is spending that $1,000,000 a month out of their high margins. And worse, if you expect your price to do all the talking for you, what will you do when Apple launches the iPad Nano at a low price? Their COGS are lower than yours, so they can obliterate your price advantage with a single press release announcing a Black Thursday sale.
The hard truth is, competing on price is a difficult job. You need to have very deep pockets and some expectation of a big payoff down the road to make back the money you lose up front. You need to have a COGS edge. In other words, you need to innovate somewhere other than deciding to charge less. Dell did that back in the day with their supply chain optimization. Apple does that now. You need to do something more than simply cut margins: You need to disrupt the tablet business.
It is not impossible, but it is more than simply sharpening your pencil. Exempli gratia: Kindle, as noted by another commenter elsewhere.
HPQ's top line is $31Bn/quarter. Cuts on app sales are a rounding error. Meanwhile, they're selling tablets at cost, devaluing the space they're competing for, and they remain at a structural disadvantage to Apple and Samsung, both of whom are handheld supply chain giants.
How does this work out well for HP?
It's easy to see how it works out well for Hacker News: there's a third viable tablet platform! Yay! But HPQ can't make decisions to maximize hacker morale; they are legally obligated to serve HPQ's bottom line.
Incidentally, your comment addresses only half of Gruber's point; the other half is that a $500->$100 discount's success doesn't prove demand either for a $200 price point or for a product with a $200 BOM.
Spending $195 to deliver a $200 platform, and then making an additional $5-10 per customer on app sales, is not a terrible spot for a business to be in. It's not Apple territory, and maybe it's not worth the risk or opportunity cost for HP given their profitability in other spaces. But one need not be a "big dummy" to think there might be room for a profitable player to use that model.
Incidentally, I only addressed the part of Gruber's post I thought needed responding to. He's right that the fire sale doesn't prove anything about market viability for an at-cost device.
First, HP makes $3Bn/quarter in gross profit. The tablet business you propose is a major strategic initiative that, EVEN IF it pulled neck and neck with the prohibitive market leader, makes only $23mm/quarter†. That's a disaster.
Second, when you're making $15 per customer and the prohibitive market leader is making $200 per customer, your business exists at the pleasure of the market leader; they can cut their prices by 10% and put you out of business; the can plow an order of magnitude more money into marketing and product development and still beat you easily on the numbers.
† And even that assumes that the money from the app store is pure profit, which it isn't for Apple.
I don't understand where you're getting the $23mm/quarter number. The last quarterly numbers I saw for Apple were just under 10 million iPads sold; using the $200/tablet and $15 profit numbers I gave before, that'd be $150mm profit on $2Bn revenue. Those aren't "blow your socks off" numbers, but they're not "disaster" numbers either (whereas what actually happened with the TouchPad was a disaster.) Numbers like that are at least viable for a major strategic initiative for a company like HP, provided there's sufficient motivation for such an initiative.
With the market leader making $200/unit and you making $15/unit, they could put you out of business if they're at a comparable price point. But if the competition's $600 iPad cuts its price to $550 or even $500, it's not going to pull a lot of customers away from your $200 hPad; you're serving very different segments of the market. Similarly, a 10% price cut by Maserati wouldn't threaten Cooper Mini sales.
I'm not saying HP necessarily made the wrong move here. I'm just saying, I don't think you have to be a "big dummy" to think there's room for a low cost, low margin tablet that makes some profit from software.
You're forgetting that those 10 million iPads were sold over many quarters. Re-do your math.
There is absolutely room for a low-margin low-cost tablet. The Kindle is one of them. But there isn't room for the HP Touchpad at HP. I kind of doubt there's room for the HP Touchpad anywhere, because it's intrinsically positioned against a superior product sold by an extremely competent company.
There, I agree. The HP TouchPad is trying to be direct competition for the iPad, and that's why it was a total disaster.
If instead HP made the WeakerPad, with higher capability than the kindle but lower than the iPad, and targeted the $200 price point (where their main competition is a bunch of 7" Android 1.5 tablets with resistive touchscreens), they might find a sweet spot in the market.
Not all of company's products need to be profitable all at the same, especially for the beast like HP. Obviously they need to be in the tablet business as it's direct threat to almost everything else they've got (well, except servers).
So devaluing that space as long as they can thanks to their other businesses might just as well be the only viable tablet strategy for HP while it reinvents itself.
How does it help HP sell servers, printers, PCs, calculators, test instruments, or enterprise software when they burn billions of dollars in an attempt to trash the tablet market?
This just doesn't seem complicated to me: there is no clear path for HP to make money on these tablets at the price points we're talking about. Therefore: they shouldn't sell them.
You don't agree that it is existential for HP to be in tablet business, even if it generates negative or close to zero margin (much like their PC, printer etc. office equipment businesses do now)?
How long do you think will they be able to sell their printer ink (has to be their highest margin business) if they don't compete in tablet space?
edit: so yeah, turns out they're actually spinning off tablets together with PC division as low margin businesses. Doesn't mean that whoever ends up with it (Samsung?) will have to do both.
Profit is an almost perfect indicator of barriers to entry. If a company makes a lot of profit (35+% operating margin) doing something - Apple's HW, or Microsoft's OS - many observers inevitably think they can just come in with a lower margin version, thinking "hey, some margin on huge volumes is still great!" But they miss the point that large margins follow from barriers to entry. Large margins on revenues the size of Apples indicate huge barriers to entry.
Maybe you can clarify what point you're trying to make. A Kindle's main function is to read books, not sell them. Likewise, a tablet's main function is to run software/apps.
edit: The argument that apps are more durable (in the economic sense) is questionable in and of itself; but even accepting the premise, that doesn't necessarily affect customer LTV, since durability is built into the price- the way a refrigerator costs more than a cooler and bag of ice.
We are on the same page- it does ultimately come down to LTV, and my intention was to show examples where it could work (other obvious ones are mobile phones and gaming consoles). I don't honestly have a figure on LTV of app buyers and if there was one I'd love to see it.
Tablet apps are generally not consumable, books are. I use maybe 5 apps on my iPad that weren't free and I keep using them. If I only purchased 5 books on my Kindle it would have become worthless to me after about 2 months.
Sure, you could. But no-one's had much luck with it yet.
When you cut materials costs (and R&D corners) enough to be potentially profitable at $200, you're looking at 7" (or less), lower-res, weaker batteries, resistive touch technology, shoddy integration, little testing and almost no support.
Those tablets exist. They're also crap and almost no-one buys them and is happy.
Apple makes the biggest margins, moves the most units, and has the most app sales of anyone on their platform. It will be tough to compete on any of those fronts.
