Up until last year, very few had heard of Xiaomi, a Chinese smartphone. Now, it dominates the news. The Beijing-based company recently became China’s largest smartphone vendor and the third-largest smartphone maker in the world, selling more than 60 million smartphones in 2014. In addition, it is the world’s most valuable startup. That’s not bad performance for a company that is less than five years old.
However Xiaomi’s success seems to have divided its observers. The startup’s admirers point to its business model and cost-cutting strategies as evidence of the company’s innovation capabilities, but critics contend that Xiaomi is a copy cat that rips off product designs and specifications to make cheap products. The reality, of course, is that Xiaomi’s business model and dynamics of the smartphone market make the issue much more complex.
Xiaomi’s appeal to consumers
Xiaomi’s genius lies in combining Apple’s product focus and commitment to community with Samsung’s nimble supply chain to ensure cheap prices. Much like Apple, the company comes out with comparatively few product lines in a year. The plentiful and diverse hardware ecosystem of East Asia ensures that its products are cheap and similar technology-wise to those of premium high-end manufacturers. In fact, the company has actively worked with Apple’s suppliers and contractors to understand Apple’s secret sauce.
Xiaomi’s vice president Hugo Barra outlined its manufacturing strategy in an interview with technology website Techcrunch recently. Typically, a Xiaomi product has a lifecycle of 18-24 months. Throughout its lifecycle, the product undergoes multiple price iterations that are made possible by decreasing component costs. According to Barra, component cost decrease is negotiated early during product manufacture with suppliers. This leaves the company with increased margins for the same product over time. The startup, then, passes on the increased margins to consumers.
Additionally, the company uses the Web to hold flash sales and reduce marketing and distribution costs. In turn, this process also keeps inventory low and creates demand for the company’s products. When it was launched last quarter, the Mi4, the company’s riff on the iPhone 6, sold out its inventory levels (approximately 100,000 items) in two minutes. The company used a similar strategy in India, where it has sold more than a million phones within five months of its launch.
The company also keeps patent litigation costs low by operating in lax patent regimes. That is smart strategy, since patent litigation is expensive and bad publicity for large organizations. The company’s future growth geographies include centers such as India, Malaysia, and the Philippines. Immediately after the release of its latest smartphone last year, Barra decried the patent system as one that was “flawed” and “hindered innovation.”
Hero or villain?
There is no doubt that Xiaomi infringes patents and copies Apple, even in minute details. Much like Samsung, which produced identical iPhones and iPads immediately after the product’s launch, Xiaomi copies designs, color specifications and technical specifications. The company is already witnessing problems due to its strategy. For example, Ericsson blocked sale of Xiaomi handsets in India due to copyright infringement.
But, Xiaomi is necessary to the smartphone market. It provides a differentiation in the market that was absent earlier.
In recent years, the market has exploded with products available at multiple price points. The top end or premium segment of the market is dominated by Apple. LG, Lenovo (which acquired Motorola last year), and an assortment of other players make up the lower end of the market. Samsung, which is the world’s largest smartphone maker and Apple’s main competitor, manufactures both premium and cheap models. But, it is a diffuse and floundering consumer brand. Its appeal seems to lie not on a specific product attribute (such as price or technology) but on its competition with Apple. Thus, Samsung exists because Apple exists. As such, it is identified more as a commodity player than a premium player in the smartphone market.
With its marketing finesse and manufacturing chops, Xiaomi has emerged as an alternative to Apple. More importantly, the company seems to know its customers and is willing to spend resources and money to develop them into active evangelist communities.
Xiaomi’s phenomenal sales have sped up adoption of smartphone technology and unlocked consumer demand for smartphones in developing economies. Without Xiaomi’s presence, the smartphone market would still be progressing at Apple’s pace (which, as we know, can be pretty slow at times) and terms, which include high prices for its products. Xiaomi has upended that dynamic.
As it moves away from its natural markets, however, the company may find competition tough because consumers in developed markets are relatively sophisticated and attuned to branding. Until then, however, Xiaomi provides much-needed competition in this space.