Alibaba Kicks Off Smartphone War With Giveaway

Nov.22.13 | About: Yahoo! Inc. (YHOO)

Smartphone makers may soon be getting an ally from China's cash-rich Internet companies, with word that e-commerce leader Alibaba (owned by Yahoo (NASDAQ:YHOO)) is preparing a massive giveaway in a bid to boost its mobile business. This move looks strikingly similar to something Alibaba did nearly a decade ago, when it made the strategic decision to offer its e-commerce services for free on its newly launched Taobao platform. That decision was derided by eBay (NASDAQ:EBAY), its chief rival in China at the time, which said that giving away services for free was not a real business model. As Chinese Internet historians know, eBay ultimately lost that battle and Alibaba has gone on to become one of the world's biggest e-commerce companies.

With that bit of history in mind, let's take a look at the latest headlines that say Alibaba will give away 7 million phones equipped with its operating system that incorporates mobile versions of its popular e-commerce platforms. (Chinese article) I'll admit that I'm not completely clear on how this promotion will work, as the wording in the report I read is a bit vague. But the bottom line is that consumers will probably be able to get these phones for very cheap or even for free as Alibaba tries to use the models to lure them to use its e-commerce services.

As I've said above, Alibaba previously had big success with its free business model, which helped it to defeat eBay at the time in a famous "David versus Goliath" battle in the online auction space. Alibaba went on to launch its even more successful TMall marketplace that lets retailers and other merchants sell their goods to consumers online, and some estimate the company may now be worth $100 billion or more.

Given Alibaba's past record at defeating eBay, I can't imagine that China's other big Internet companies will stay idle and watch Alibaba steal market share in the mobile space. Nearly every major web firm now understands the importance of mobile services in the future of the Internet, with the result that sector leaders from Tencent (OTCPK:TCTZF) to Baidu (NASDAQ:BIDU), Sina (NASDAQ:SINA) and Ctrip (NASDAQ:CTRP) all love to talk about their fast growth in the space at any opportunity they can.

What's more, these companies I've just mentioned have huge cash piles, as all have recently raised hundreds of millions of dollars in new funds through bond offerings. Some of that cash has gone to acquisitions, but certainly all of these companies can spare a few million dollars for free phone giveaways similar to what Alibaba is doing. If that happens, we could soon see the market flooded with millions of ultra cheap or free new smartphones, each with a customized operating system (OS) designed to direct users to a particular Internet company's sites and services.

That would obviously be good news for consumers, who will see the price of their phones drop further still from levels that are already quite low. It could also be good news for some smartphone makers like Huawei, ZTE (OTCPK:ZTCOF) and Lenovo (OTCPK:LNVGF), many of whom are coming under pressure as they fight each other for market share.

So, how is all of this going to play out? If Alibaba goes ahead with its plan, which looks likely, I could see Baidu, Tencent, Sina and perhaps 2 or 3 other major Internet firms all launching similar promotions. That could mean some 30-40 million or more free or highly subsidized smartphones suddenly flooding into the market, roughly equivalent to the number of smartphones that are now sold in China each month. If that happens, smartphone makers that sell to the big Internet companies will clearly benefit. On a broader scale, such a move would also inject a major new shot of downward price pressure into the already competitive market.

Bottom line: Alibaba could spark a smartphone giveaway war among Chinese Internet companies looking to boost their mobile business, putting big new downward pressure on prices.