Apple, Samsung face $3.9B wall to selling phones in China

Apple Inc. and Samsung Electronics Co. face a $3.9 billion challenge as they prepare to sell new marquee phones in the world's biggest wireless market.

China's state-run wireless operators are slashing subsidies they pay to make devices more affordable for consumers just as the biggest phone-makers are set to introduce upgraded products. After China Mobile Ltd. said it will cut subsidies by $2 billion, its competitors will lower payments by $1.9 billion, according to analysts' estimates. China Telecom Corp. said today it will cut spending without giving a figure.

The reductions come as Apple is said to be preparing a bigger-screen iPhone and Samsung plans to bring out its Note 4, high-end devices that historically would have been subsidized by as much as $700. Both need a lift in the largest smartphone market, where Samsung lost the top spot in share last quarter and Apple failed to crack the top five in sales.

“The reduced carrier subsidies and rising local competition will affect consumers' reception for the new phones,” said Tay Xiaohan, a Singapore-based analyst with International Data Corp. “The impact will be greater on the higher-end smartphones in the market, which the Note 4 and iPhone 6 fall under.”

Carolyn Wu, a Beijing-based spokeswoman for Apple, declined to comment on the impact of subsidy reductions. Clara Lee, a spokeswoman for Suwon, South Korea-based Samsung, also declined to comment.

More Expensive

The cuts mean Chinese consumers used to paying about $100 for a new iPhone through their carrier may have to spend as much as $800.

Typically, Apple and Samsung sell their high-end phones to carriers for about $600 to $800 each. The carriers then subsidize the price, with the biggest discounts usually offered in conjunction with the most expensive subscription plans.

China Mobile pays Apple about $700-$800 for an iPhone 5s with 16 gigabytes of storage, said Neil Shah, Mumbai-based research director for devices at Counterpoint Research.

China Mobile then sells the phone on its website for about $860, without a contract. It offers a discount of as much as 88 percent for subscribers of the top-end plan -- meaning China Mobile subsidizes each phone by as much as $697.

The carrier doesn't release unit sales data.

Profit Drop

China Mobile will spend 21 billion yuan ($3.4 billion) to offset phone prices for customers this year, compared with the 34 billion yuan it had planned, Chief Financial Officer Xue Taohai said Aug. 14. The decrease was announced as the largest carrier by users posted its fourth-straight drop in profit.

Apple doesn't release how much each iPhone costs or how much it charges carriers.

The State-owned Assets Supervision and Administration Commission told carriers to cut costs by 40 billion yuan in three years because they overspent on subsidies and advertising, people familiar with the matter said last month.

The directive comes as Cupertino, California-based Apple is set to introduce two smartphones: one with a 4.7-inch screen and another with a 5.5-inch screen, people with knowledge of the plans have said. The models would be introduced Sept. 9, a person familiar with the plans said.

Reducing Demand

Samsung will unveil a new Note on Sept. 3 after posting its smallest profit in two years on stagnating sales of the Galaxy S series. Samsung may include a three-sided display, enabling users to read messages from an angle, as it seeks to protect its market share for devices that combine features of phones and tablet computers.

Samsung shares are down 10 percent this year after the company shipped 3 million fewer smartphones last quarter compared with the year before.

“The reduced subsidies will certainly lower the demand for Note 4 and iPhone 6,” said Bryan Wang, Beijing-based country manager at Forrester Research Inc. “The impact for Note 4 might be greater as iPhone users are more loyal to the brand and will be more likely to pay for the device.”

China Unicom (Hong Kong) Ltd. will lower selling and marketing expenses as a percentage of revenue in the second half, President Lu Yimin said Aug. 7 without supplying details.

China Telecom will cut spending on subsidies to 15 percent of mobile service sales for the full year, compared with 18.7 percent spent in the first half, Chief Financial Officer Wu Andi said today in Hong Kong at a press conference.

Xiaomi Rises

The company will cut broader selling expenses this year by 7 billion yuan, including subsidies, advertising and commissions, Jacky Yung, a spokesman, said by phone. Yung declined to give the subsidy figure alone.

“The cut in subsidies and marketing expenses can't be directly translated to profits,” Wu said. “On the whole, though, it will help.”

China Unicom and China Telecom may cut 11.4 billion yuan in handset subsidies this year, Qiu Xiaolei, a Shanghai-based analyst at SWS Research, said in an e-mail today. That includes 7.1 billion yuan by China Telecom and 4.3 billion yuan by China Unicom.

Tucker Grinnan, a Hong Kong-based analyst with HSBC Holdings Plc, earlier projected the cuts at 6.5 billion yuan -- with China Unicom lowering spending by 4.5 billion yuan and China Telecom by 2 billion yuan. He didn't update his figures after today's earnings.

Even before the carrier cuts, Apple and Samsung faced tougher competition from Chinese companies Xiaomi Corp. and Lenovo Group Ltd., which offer phones with similar features at lower prices. Xiaomi overtook Samsung in China market share in the second quarter, Canalys said.

“Samsung's products are gradually losing traction due to its inability to distinguish its products from other Android phones,” said Lydia Bi, a Shanghai-based analyst at Canalys. “Rising local competition and carriers' cutbacks on subsidies are only going to dampen its situation. To a lesser extent, Apple's products share similar problems.”