Xiaomi’s Careful Supply Chain Management Keeps Prices Low

May 28, 2015 - Written By David Steele

Compared with many other device manufacturers, Xiaomi has an interesting business model. The traditional mobile ‘phone manufacturer is interested in a combination of increasing or at least maintaining market share whilst selling individual boxes of a given product at a high enough margin in order to turn a profit for shareholders. The same is true of a manufacturer’s accessory lines: here the intention is to sell something at a price that will provide shareholders with a return. These businesses establish continuous production runs and many work closely with carriers to form supply agreements. Xiaomi, however, have worked quite differently. They describe themselves as an Internet business rather than a smartphone manufacturer and because of this, they sell their smartphones (and tablet) with a very low margin. It’s reputed to be under 2%, comparing with around 20% for Samsung. Every box that Xiaomi sell, they do make a profit but the majority of the profits are generated through their software products and services. This is a business model that Google tried with the 2012 Nexus 7 and Nexus 4, then the 2013 Nexus 7 and Nexus 5, before seemingly abandoning it in 2014 for the Nexus 6 and Nexus 9.

The advantage of Xiaomi’s business model for customers is clear cut: we get great prices for our smartphones! And for Xiaomi, they have carefully structured their Chinese business in order to ensure that every handset they manufacture, they have a buyer for it. This removes the risk of having a warehouse full of unsold ‘phones (that have been paid for). Xiaomi have successfully used “hunger marketing,” that is, the way that they have kept customers interested in their devices by keeping supply limited, but realistic. Xiaomi also have great working relationships with suppliers – for example, they are Qualcomm’s third largest customer – which they can use to keep component prices down. They largely stick to online distribution (and remove most the retailer and distributor margins from the equation), and their business model also foregoes a profit from the devices during the first few months. As a product stays in the market, so it becomes cheaper to manufacture (and Xiaomi aren’t afraid of price cuts as the device matures).

When might Xiaomi start selling smartphones into the US market? We’ve seen some expansion into India and accessory stores have popped up in North America and Europe, but currently there are no fixed plans to sell Xiaomi smartphones into the United States of America. Instead, the business is building brand awareness into these markets. There is also the subsidy culture, whereby the sticker price of a handset might only be $200 when attached to a two year plan, compared with Xiaomi’s carrier-free price of perhaps $350. To many minds, this makes the Xiaomi to be more expensive because customers do not take into account the regular payment necessary for the remainder of the two year contract!

In addition to the accessory stores to help build brand awareness, Xiaomi will at some point need to negotiate with carriers. Although some carriers are known to be more fickle than others when it comes to choosing vendor suppliers; this remains a challenge and ultimately will have to be paid for. And another obstacle is getting the customer services spot on, which of course includes service and repair centres plus the necessary infrastructure. We have already seen how Xiaomi will use a local business for this and again the same is likely to need to happen in the US. However, whilst Xiaomi won’t be introducing a smartphone to the US market this year and perhaps not next year, they are coming.