The Dramatic Rise (And Fall) Of Xiaomi

ForbesA 7/11/2016 @ 6:00AM

Once Chinas biggest smartphone vendor, Xiaomi is now in decline. What can it possibly
do to make a comeback?
Never had a Chinese domestic phone achieved such dizzying heights of success before
Xiaomi came along. The smartphone vendor sold over 61 million phones in China in
2014, beating the immensely popular Samsung and Apple to become the biggest
smartphone vendor in the country. It created sales records by selling hundreds of
thousands of phones online within minutes. People were quick to claim that Xiaomi was
Chinas Apple and Lei Jun, founder and CEO of Xiaomi, was given a moniker: Leibs
which stands for Chinas Steve Jobs.
But now Xiaomi is cooling down at a worryingly rapid pace.
The six-year-old company has peaked, analysts say, and the decline has set despite all
the impressive tools in its arsenal, such as its unique flash sales and social marketing
strategy.
In 2015, Lei announced that Xiaomi would sell 100 million phones that year. But it fell
short of its ambitious goal, selling only 71 million, according to International Data
Corporation (IDC).
In the first quarter of 2016, it was kicked out of IDCs list of the top-five smartphone
vendors. Now except for Apple and Samsung, the other three on the list are Chinese
companies: Huawei and two relatively lesser-known brandsOppo and Vivo.
Pigs Can Fly
Lei Jun, 47, former engineer and president and CEO of Kingsoft, a Chinese version of
Microsoft Office, has a rich experience in Chinas tech industry. He once said: Even a
pig can fly when it is hit by a tornado. The quote, which became an instant hit with
start-ups, meant that anyone can succeed by simply going with the trend of economic
and social development.
And perhaps thats what Xiaomi did.
nextpageIn the go-go years, Xiaomi thrived on the popularity of e-commerce, social
media and smartphones. There was another factor behind its success though: when it
first came to the market, its feature-packed phones were indeed revolutionary,
especially given their ridiculously low price point.
Smartphones started to become ubiquitous in China in 2009. The market had two
extremes: high-end brands like Samsung and Apple with prices ranging from RMB
3,000 to RMB 5,000, and cheap, pirated no-name phones. What was missing was a
phone from a decent brand with good quality and affordable pricing.
And then people discovered Xiaomi. Founded in April 2010, Xiaomi was chic and trendy
and had its own customized Android-based operating system called MIUI. When it first
came to the market, it was indeed revolutionary, especially given its ridiculously low
price point.
Xiaomi quickly developed a cult-like fan following.
It created a Mi Fan community in an effort to unite fans. It listened to their advice
carefully and often incorporated, their feedback to polish its devices. Rapidly
incorporating customer feedback became an important part of the Xiaomi model. Lei
often often says in public that Mi fans are science geeks without high incomes,
indirectly indicating that their reviews of the phone are credible.
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The fans also did their part by giving the phone free promotion online, especially on
Sina Weibo, a popular microblogging platform.
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Given its ability to generate word-of-mouth publicity through fans, Xiaomi was able to
avoid unnecessary marketing expenditure. It sold its phones in flash sales online,
whipping up a frenzy for its latest models.
But gradually others started aping Xiaomis model, chipping away at its competitive
advantage. And soon people got tired of flash sales and marketing gimmicks. The
novelty had worn off.
Jin Di, research manager with IDC China, says that Xiaomis sales are falling partly
because the smartphone market is decelerating in China. Data from IDC shows that the
year-on-year growth of smartphone shipments was 62.5% in 2013 and the figure
dropped to 2.5% in 2015.
It also faces fierce competition. Apart from big foreign brands like Apple and Samsung,
the market is also seeing strong competition from tech stalwarts like ZTE and Huawei.
And now there are also smaller brands like Oppo and Vivo that are quickly rising up the
popularity charts.
There are also problems with Xiaomis own product quality, says Jin. The phone, while a
novelty when launched, is now no different from others on offer in the market: it has no
special features or technology. (Xiaomi did not respond to CKGSB Knowledges
interview requests.)
Since 2012, when Xiaomi released the Mi3, many users complained that the phone
constantly restarts by itself.
And the Mi 4c, released in 2015, has received bad feedback on the Mi fans online forum,
with users saying it would suddenly halt operation. This year people complained that
the screen of Xiaomis latest model, the Mi5, easily bends and breaks.
But because Xiaomi has always been cheap and hard to get for a long time, people still
say that the phone has a good price/performance ratio.
nextpageThe Changing Strategy
While Xiaomi was focusing on selling online, its competitors, Huawei, Oppo and Vivo
were doing the opposite: expanding their retail footprint through stores and
distributors.
Xiaomi has failed to reach people in lower-tier cities and towns while its competitors
have expanded far and wide, Jin says.
Both Oppo and Vivo, with similar features and pricing as Xiaomi, have forged tight
relationships with retailers and distributors. Apart from their own stores, they also
contract local selling agents, through whom they keep close ties with phone retailers and
electronic appliances stores like Suning and Gome. By the end of 2015, people could buy
Oppo phones in 200,000 stores nationwide and Vivo also covered over 200 cities.
Despite more Chinese people preferring to shop online, 74% of phones were still sold
through brick-and-mortar stores in 2015, according to statistics from Beijing PuTian
TaiLi Telecommunications Technology, Chinas largest mobile phone distributor.
Currently around 60% of Xiaomis phones are sold online and 40% through retailers. To
catch up, Xiaomi is expanding cooperation with mobile retailers and electronic
appliance stores and also increasing the number of Mi Homes, its own stores, from 20
to 50.
Xiaomi has also teamed up with China Unicom and now its phones will be sold in the
telecom companys 4,800-plus retail outlets nationwide. It has also produced a
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customized phone for China Unicom customers: the Redmi 3X, priced at RMB 899.
An internal document revealed by Reuters says that Xiaomi aims to sell 58 million
handsets in 2016 through offline stores, double the number it sold through offline
channels in 2015.
This expansion wont be easy for Xiaomi.
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Due to their low price and wafer-thin margins, salespeople dont find it lucrative to
promote Xiaomi phones to customer, says Jin.
On the other hand, Huawei, Oppo and Vivo have both expensive and cheaper phones
through which salespeople make a higher commission and thus have an incentive to
push their phones.
Whats more, selling offline means Xiaomi will lose the cost advantage it got by
bypassing distribution costs.
Its business model is that is sells at a very cheap price with a slim margin. At first, it
wont make profits and then after one year, the component prices drop and the phone
price remains unchanged, so it can start to profit. But that wont work in the offline
market, says Jean-Louis Lafayeedney, director at Haitong Securities International
Securities Group.
Other than distribution costs, Xiaomi has to spend money on expanding its own stores,
sales training and so on. Expanding the offline market is possible, but it will then
totally change its business model and marketing strategy, and its not going to make
money, Lafayeedney says, adding that working offline makes it just a regular
smartphone vendor.
However, Xiaomi might have one more trick up its sleeve: it doesnt want to be a
smartphone maker only.
In the past five years, Xiaomi has been laying the foundation of its ecosystem and now
its almost complete, Lei said in an interview with the 21st Century Business Herald, a
Chinese publication.
By investing in many start-ups that produce smart home appliances, Xiaomi is trying to
build an ecosystem: one that can connect with and control everything in the house using
one interfacethe Xiaomi phone. Xiaomi is placing big bets on The Internet of Things
(IoT), a network of internet-enabled devices widely heralded as the future of technology
and human life.
A Fragile Ecosystem?
If you look at Xiaomis online store, you will find a variety of products: a set-top box, a
fitness tracker, a wifi router, an air purifier, a rice cooker as well as many other smart
home appliances.
Xiaomis ecosystem is still pretty much a work-in-progress. But it is already showing
signs of weakness. Ultimately the question is: will the strategy work?
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Building an ecosystem makes sense, but there have to be enough number of users, at
least 300 million, to hold the terminal, in this case the smartphone, to form an
ecosystem. Because the point of an ecosystem is to have large enough amount of family
and house-related data, based on which the company could provide and sell valueadded services, says Yin Sheng, former associate editor of Forbes China and a wellknown expert on Chinas tech industry, who started to question Xiaomis business
model and valuation three years ago.
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If Xiaomi cannot sell its phones well, any new concept it boasts about will not work, says
Yin.
Jack Chen Xinlei, a professor at CKGSB, thinks that the ecosystem strategy has
distracted Xiaomi and diluted its efforts, making it care for this and lose that.
However, for Xiaomi, it has to say its something more than a smartphone vendor to be
favored by venture capital, says Chen, adding that the ecosystem concept is the reason
why Xiaomi enjoyed such a high valuation of $45 billion in 2014.
Allegedly the value is down to $15 billion, a figure first revealed by Wang Zeqi, CEO of
Shenzhen Fenda Technology, on Weibo in late 2015, but was later denied by Xiaomi.
There are two major problems with Xiaomi, Chen says. One, Xiaomi did not focus on
making a good phone and without consolidating its position in the smartphone industry,
it impatiently expanded into other areas.
The other is its low market positioning. People who buy Xiaomi are low income people
like college students and blue collar workers. They are not loyal buyers. Once they have
money, they will move to brands like Apple and Samsung, says Chen.
So far Xiaomi Notepro is the companys most expensive phone. At first it was sold at
RMB 3,299, not long after, the price was lowered to RMB 2,599. While the company has
boasted of the sales records of the low-end RedMi which has sold over 25 million
phones, it never publicized the sales volume of Xiaomi Notepro.
nextpageThese low-income buyers of Xiaomi have no purchasing power to buy the
other products Xiaomi is selling [i.e., the smart home appliances], Chen says.
Although Xiaomis online store has many smart home products that are developed by
start-ups which Xiaomi has invested in, theyre often not the leading names in their
industry. If Xiaomis brand gets tarnished due to some reason, these products can easily
pull out and operate under their own brand names and sell on other e-commerce
platforms.
So Whats Next?
Most experts reached by CKGSB Knowledge share the opinion that Xiaomi should really
do much more to improve its phones. So far the companys value is only based on its
marketing strategy and business model, but it has little in the name of core technology,
the bedrock that gives a tech company its prowess.
Lei Jun has also realized the company has run into problems and has to make some
changes. Apart from planning offline stores and developing sales channels, it has to pay
more attention to develop its core technology.
In May 2016, eight days after the latest Xiaomi phone Mi Max was released, Lei sent an
internal letter to his staff, announcing that he would personally take charge of the
mobile phone development and supply chain management team. Zhou Guangping, cofounder of Xiaomi and who worked as chief engineer of Motorolas R&D center, was
designated as chief scientist.
Lei said in the letter that Xiaomi has to do a lot of prospective research on the mobile
phone side to improve the technological prowess of the company. We hope Guangping
can make innovations and breakthroughs in the new position and bring us more
pleasant surprises in exploring the frontiers of science and technology.
Xiaomi is facing competition from products rather than business models. Xiaomi has
to focus on producing high-end products, but it also has to risk losing some customers
and profits. It just depends on how much its willing to sacrifice, says Chen.