The Future of the Mobile Wireless Device Market (Part 5)

|
Includes: AAPL, BBRY, GOOG, HPQ, MSFT, NOK, PALM
by: Logan Smyth

<<< Return to Part 4

If you had read this far in this series, I commend you. If you skipped ahead to the end, I don’t blame you. I never planned for this series to be so long, but there was a lot of information I felt was important to include. This shift towards mobile wireless devices has been a fascination for me for years, but I rarely came across many articles that attempted to discuss every competitor in depth. After finally finishing this article, I now understand why that is. I said earlier that this is a rapidly growing segment of the market. With that rapid growth, however, comes an unrelenting stream of news, organizational changes, product announcements, etc. Trying to cover so many moving parts at once is like trying to hit a moving target. If anything, though, this should be a testament to how quickly this segment of the market is evolving.

One of the most intriguing statistics that I found while researching this article was Gartner’s prediction for smartphone market penetration. The research firm predicts that in 2013 smartphone sales will account for 43% of worldwide mobile phone sales, a three-fold increase from 2009 levels. Further, Gartner predicts that in the same time period, smartphone sales in Europe and North America will reach 70% of all mobile phone sales. It is clear that smartphone sales are about to reach a breakout phase. In the next three years, smartphones will become prevalent in most developed countries. As prices continue to come down with scale, it is only a matter of time before smartphones replace traditional mobile phones entirely.

Part of the reason I am so captivated by this shift towards mobile wireless devices is because of how rapidly it is taking place. The market for smartphones and tablet devices will be truly massive when it reaches maturity, yet, we are only in the early growth stages. This is a rare opportunity for investors, and if positioned correctly, it could be extremely lucrative. Despite all the negativity surrounding the economy and consumer spending, sales data has shown that consumers are still willing to spend on smartphones. The combination of a resilient trend and a massive potential market makes me believe this will be one of the defining investment opportunities of this decade.

I have already been very clear on my beliefs regarding which companies I think will succeed and which will fail. The question then, assuming I’m right, is how to position your portfolio to profit from this shift in the market. Part of the reason I believe this shift can be so lucrative for investors is because of how rapidly it is taking place. In certain instances, I believe the use of LEAPs could help investors to capture additional returns from the large upsets in market share I think will occur over the next few years. I would like to begin, though, by focusing on the two companies I singled out as winners. While other companies may be able to carve a niche position for themselves, it is clear that Google (NASDAQ:GOOG) and Apple (NASDAQ:AAPL) have the momentum and the fundamental understanding of the future of the market that is necessary for success. I think both of these companies are poised for tremendous growth in the coming decade, although, their distinctly different strategies require different approaches when investing.

I believe that by the end of this decade Google’s Android will likely power the majority of mobile wireless devices. Yet, because Google gives away Android for free, it does not actually create revenue from Android’s success. Instead, Google is banking on extending its dominance of traditional PC search into the mobile search market. Currently, mobile search accounts for less than 1% of Google’s total revenue, but that will begin to change as mobile wireless devices become more prevalent. Further, location data from mobile search should allow Google to deliver more targeted ads and in turn generate higher revenue per search. As an added bonus, Android’s success should increase the presence of Google’s brand and help the company maintain, if not increase, its mindshare with consumers.

I believe Google has positioned itself very competitively and is poised for strong, consistent growth as the mobile device market grows. Google is no longer the Wall St. darling it once was, commanding a stock price north of $700, but I think that will change as mobile search becomes more lucrative. Theoretically, mobile search should eventually surpass traditional PC search both in number of queries and revenue per search, though it will take some time. I think Google is actually quite attractive at current levels as a long-term investment. The stock is trading around 15-16x estimates for 2011 earnings and is about 30% off of its all-time highs. If anything, I view Google as the safest, long-term play on the shift towards mobile wireless devices. Despite their vested interest in Android, Google’s success in this space is really platform agnostic. Any investor interested in taking advantage of the shift to mobile wireless devices should consider a long-term position in Google as the base for their portfolio.

My investment strategy for Apple is far more aggressive than for Google. I stated in my discussion of Apple that I believe this company will become far larger and more profitable than most people realize. I believe much of that growth will come from sales of mobile wireless devices. Further, I believe the Gartner estimates for 2013 are key to creating an investment strategy that capitalizes on the massive growth in the smartphone market. As stated earlier, smartphone penetration is forecast to reach 70% in Europe and North America in the next three years. While these are only estimates, they imply that much of the growth in the smartphone market will occur in the next few years.

The company that is best positioned to profit from the growth in the smartphone market over the next few years is Apple. Unlike Google, Apple makes considerable profit from the sale of each device sold. Further, it is growing its market share faster than any of its competitors, except for Google. Apple’s unique market position makes it the perfect investment vehicle to capitalize on the rapid growth of the smartphone market. It is my belief that 2010-2014 will be the ‘sweet spot’ for investors looking to profit from the proliferation of smartphones. The forecast growth rates, both for Apple and the broader market, are exceptional and Apple should be able to maintain pricing power, at least until the market begins to get saturated. I believe that the best way to capture this ‘sweet spot’ will be an equity position coupled with 2-year call LEAPs. The January 2013 LEAPs for Apple will begin trading after this September’s expiration. Because these contracts are not trading yet, it is impossible to recommend specific strike prices. However, I will be looking at strike prices that are either slightly OTM or ATM. While this strategy carries additional risk, it provides the means to create outsize returns from this period of exceptional growth.

Apple and Google are clearly my top picks for profiting from the coming shift to mobile wireless devices, but there are still many other possible investment strategies. I previously identified Research in Motion and HP/Palm as contenders in this space. My concern with Research in Motion is its inability to keep pace with the rate of innovation in the smartphone space. The results of the crowd science survey showed that BlackBerry owners do not have anywhere near the brand loyalty of iPhone or Android device owners. It is my belief that while Research in Motion will continue to grow gross shipments as the overall market grows, they will gradually lose market share to their competitors. It is my expectation that should this occur, Research in Motion’s investors will choose to focus more on the eroding market share rather than the increased shipments.

Regarding HP (NYSE:HPQ) and Palm, I would opt for a more wait-and-see approach. HP is definitely facing some challenges, the most prevalent being the relative lack of software for the webOS mobile operating system. Further, since no new devices have been released yet, HP’s plan for Palm remains a mystery. Despite being the largest PC manufacturer in the world, the company has been surprisingly absent from the smartphone space. I fully expect that by the holiday shopping season investors will have a much better understanding of HP’s plans for the mobile wireless device market and how it plans to address the issues facing webOS. Until there is more clarity, though, I would postpone any investment decisions.

The last two companies are the laggards of the mobile wireless device market, Microsoft (NASDAQ:MSFT) and Nokia (NYSE:NOK). Frankly, there isn’t much to say here that I haven’t said already. In my mind, Nokia is a company living on borrowed time. They will continue to try and fix their smartphone offerings while slowly sucking every last dollar out of traditional mobile phones. In the end, though, things do not look good for Nokia. The entire market is gravitating towards smartphones and Nokia’s products just don’t stack up to competitors.

Microsoft is a different story entirely, because the strength of its core business offsets losses elsewhere in the company. They generate astonishing amounts of cash from their Windows and Office franchises, however, I expect their mobile device strategy to closely mimic their approach to digital music or Internet search. They will deliver an inferior product, late, and throw money at it for years in the hopes of making it competitive. It should be very clear that I do not advocate investing in either of these companies. There may be periodic chances to short Nokia, but I would rather deploy capital elsewhere. Microsoft, on the other hand, is simply dead money. The company’s best days are behind it but it is too big to short.

If you have actually read this entire article, then I thank you. It took considerably longer than I thought to write it, but hopefully I have provided you with some insight into the future of mobile wireless devices and the broader technology industry.

Disclosure: Long GOOG, Long AAPL