Samsung – No bottom with this line

Cutting a few models does not address the problem.

• Samsung has confirmed that it will cut the number of smartphones that it launches in 2015E by 30% in an attempt to shore up profitability.
• It will also aim to increase its re-use of parts across its portfolio and thereby gain greater scale advantages from volume purchases.
• The hope is that these measures plus a good slug of cost control will bring margins back up to 10% on the lower revenue outlook that the company faces.
• Unfortunately, this is a further sign that Samsung appears to have lost control of its handset business and I fear that these measures will do nothing to halt the margin decline of the last 2 quarters.
• The graveyard of the mobile handset industry is littered with examples of companies who led the market and then lost their edge.
• All of them were unable to control the loss of market share which unravelled so fast that substantial losses were incurred as management struggled to bring the businesses back under control.
• Handsets are a business of scale.
• A handset maker invests in R&D to develop a handset and then runs a marketing campaign at launch.
• These are fixed costs meaning that the more devices of each model that ship, the higher the margins that are earned.
• In recent years Samsung has gone from shipping less than 1m each of over 100 models to shipping tens of millions of single models such as the Galaxy S and Galaxy Note. .
• I have long suspected that the profitability of these devices is at least as high as Apple’s and have almost single-handedly underpinned Samsung rise to prominence.
• The problem is that these devices are no longer special and it is in the devices that have been expected to ship huge volumes where most of the weakness has been felt.
• Simply cutting other devices that ship lower total volumes does nothing to address the fundamental weakness currently being exposed in the heart of its portfolio and I think margins are very likely to continue falling.
• In Q3 14A Samsung only suffered competition from the iPhone 6 for a few weeks but in Q4 14E it will feel it for the full quarter.
• Now that Apple is producing large screen devices, the one competitive edge that Samsung had has now been removed.
• Hence it looks certain to lose further share in the critical high end, high margin devices where it has been making the bulk of its profits to date.  
• Consequently, simply trimming models that are less popular and that have much lower margins is unlikely to have much of an impact as the critical problem remains the profitability of its flagships.
• The market seems to have accepted that Q3 14A was the bottom for Samsung and that steady recovery is in the works.
• I have seen nothing that would lead me to this conclusion.
• Its erstwhile forbears all suffered huge losses before bringing their business to stability and I cannot see that Samsung is doing anything differently.
• Hence, I am looking for margins to decline again in Q4 14E which I think will be badly received.
• There is plenty of downside left in Samsung following its recent rally and I would immediately exit the shares before its inability to escape the fate of its peers becomes obvious.
• Microsoft, Apple and Google all offer far better and far safer places to take a view on the digital mobile ecosystem.