A Likely End Game to Hostility

The hard disk drive business has been a lousy place to compete for nearly twenty-five years.  It has been the graveyard of many competitors.  Twenty years ago, there were eighty disk drive manufacturers.  By the mid-90s, there were only fifteen.  By 2001, there were eight, and today it appears there are only four.  But the fact that we are at four competitors, especially the size of the leading competitors, means that the industry is likely to come out of its recurring bouts of overcapacity and hostility. 

As 2011 began, there were five hard disk drive manufacturers.  Western Digital led the market with a 31% market share, followed closely by Seagate with a 29% market share.  Hitachi enjoyed an 18% market share, while Samsung and Toshiba shared the remaining 22% of the market.  Recently, Western Digital agreed to purchase Hitachi.  This acquisition would bring Western Digital’s potential market share to 49%.  The top two of the remaining four competitors would then have a potential market share of 78%.  The top three would have more than 85% of the market. 

Hitachi was not just any other competitor in the market.  It had a well deserved reputation for being the most aggressive price discounter in the market.  Hitachi was the major reason that pricing stayed under pressure in the hard disk market.  Western Digital’s acquisition removed the major discounter.

In the past, acquisitions among the hard disk drive manufacturers brought somewhat better margins to the remaining players, but not as much market share as the acquisition would suggest.  The reason was customers rotating other strong suppliers into their relationships to maintain low prices.  With only four players left, and a dominant leader in the market, there is little purpose for the three followers to discount against Western Digital.  A discounter might pick up some temporary share in a market saturated with “last look” arrangements, but it might face a very aggressive pricing response by one or both of the remaining leaders in the market.  No, rather than discount, the economics for all the players would argue for firm industry pricing.  That is the most likely outcome of this acquisition.

Over the years, we have studied many industries in overcapacity.  Overcapacity produces a hostile market, where returns are low and price competition remains intense.  These kinds of markets end in one of two ways, either demand picks up and sops up the industry’s overcapacity, or the industry consolidates to the point where the top four competitors control 85% or more of the industry’s volume.  The remaining players then demur from competitive price discounts. The majority of industries see demand growth pull them out of hostile conditions.

There is one potential fly in this hard disk ointment.  Computer tablets and other portable devices don’t use hard disk drives.  Instead, they use NAND flash drives.  These are solid state drives.  They are more expensive than hard disks, have a much smaller form factor and are generally more reliable.  Samsung, Toshiba and SanDisk are the leaders in this market.  It could happen that Samsung and Toshiba, two of the four remaining hard disk drive suppliers, use low prices in the hard disk market to create customers for their more expensive flash drives.  It is more likely, however, that these two companies, who are distant followers in the hard disk market, would prefer to see higher prices for hard disks.  These higher prices on a competitive product would help some customers in the market transfer alliance to flash drives.

This acquisition should be a good deal for the remaining four hard disk players.  While some analysts have argued that the hard disk drive market will slowly die under the pressure of the growth in the applications of flash drives, industry observers still see an 8% per annum unit growth for this market over the next five years.  That unit growth should come with better margins for the remaining players.

Apple's Future in Smart Phones - Part II

Apple is the clear leader in today’s consumer smart phone market. Research in Motion leads the commercial market. I am going to make the case that a few years from now, they will have a single digit market share. They will turn into a Performance Leader, a small high-priced competitor in the market. (See “Video #24: Price Point Specialists in Hostility” on StrategyStreet.com.) This position will be similar to the one Apple holds today in the personal computer market. In Part I of this blog, we described the evolution of Apple in the personal computer market. Apple today produces a marvelous personal computer. It appears that Apple is following the same map in the smart phone market as it followed in personal computers.

Apple owns both the hardware and the software in its smart phones. And it keeps both exclusive to Apple. It had early mover advantage so it garnered virtually all of the apps that people cared to develop for its smart phone platform. But a new competitor has emerged in the Android operating system. Android fills the same role as Microsoft did in the personal computer industry. Microsoft was cheap and available for many hardware platforms. The PC attracted the most app developers. Android is cheap and attractive to app developers. On the other hand, Apple has made life difficult for app developers by forcing them to jump through hoops in order to gain approval to offer apps on the Apple iPhone platform. Today, Apple has something north of 200,000 apps. Android has 70,000 apps. But, as one analyst noted, every app that a number of people are likely to want to use today is already available for both the Android and the iTouch. Apple may have more apps, but most of the apps exclusive to Apple appeal to narrow niches.

Now let’s play forward the next few years. (See “Audio Tip #32: Introduction to Step 7 of the Basic Strategy Guide” on StrategyStreet.com.) Motorola, HTC, LG and Samsung are among the many companies producing Android-based phones. The Android market is growing quickly. It will grow even more quickly as the prices of the Android handsets fall under the pressure of competition in the smart phone hardware market among some big, capable companies. Within a year, the app developers will write new apps, first for the Android platform and second for the Apple iPhone or other smart phone platform. Several years from now, the intense competition in the hardware market will reduce the cost of an Android smart phone low enough to remove a good deal of the profit that Apple now enjoys with the iPhone. (See “Audio Tip #102: When is Price Likely to Go Down?” on StrategyStreet.com.) As the Android smart phone producers continually add the features and capability to make their phones unique for consumers, the Android phones will be nearly as capable as, if not the equal of, the Apple iPhone. And, the Android phones will be much cheaper. Apple will be pushed into a Performance Leader position, where it offers high-priced feature-rich phones and garners a share of the market likely to be in single digits. This will not happen overnight. The smart phone market is still in its infancy. But check back in three to four years.

It will be interesting to see whether this competitive pattern holds in the tablet computer market as well.