Will Microsoft’s Surface Phone Succeed Where Windows Phone Failed?

Microsoft has dabbled in the Smartphone market without much success. In fact, its strategy to offer cheaper smartphones for emerging markets was undone by Google Android One initiative, which undercut Microsoft prices by close to $20. Despite the launch of Windows 10 for mobile devices, the market share of Windows Phones shrank from 3% in Q3 of 2014 to 1.7% of all smartphone shipments during the third quarter, according to Gartner IT.

Recently, Microsoft launched two new smartphones that target the premium segment of the market. News has surfaced that Microsoft is reportedly developing a smartphone version of its Surface tablets called the "Surface Phone," according to insider sources cited by Windows Central. The rumored flagship, which will be developed by Panos Panay and the team of engineers that built the Microsoft Surface and Surface Book, is slated for release in the second half of 2016. In this note, we explore the strategy behind this initiative and Microsoft's prospects for success.

Microsoft Targeting The Premium Phone Market

Most of Microsoft's smartphones, barring the latest Lumia 950 and Lumia 950XL, target the sub-$200 segment and are mostly sold in emerging markets that are expected to witness more growth in smartphone adoption. However, given the competitive sharacter of the market, these phones typically generate very low margins (8-10%) and thus erode profitability. Meanwhile, the premium segment, which is lead by Apple iPhone, has gross profit of over 40%. These premium phones account for 20% of topline and 90% profitability of the smartphone industry. Considering this, it made sense for Microsoft to ditch its efforts to manufacture and sell cheap smartphones, and instead focus on selling premium quality phones at higher price points.

Microsoft Plans To Bolster Its Surface Ecosystem

Microsoft has been trying to reinforce integration within its ecosystem by offering features and products that allow its mobile devices (smartphones, tablets and laptop) to work together seamlessly. Microsoft is introducing universal apps that will help its mobile devices to work with other major apps like Instagram or Gmail.

With the re-launch of the Surface Pro last year, Microsoft tried to not only bridge the gap between PCs and tablets but also cover a shortfall in its hardware portfolio. Microsoft is leveraging the Surface brand name to market its Surface Phone and once again fill the gap in its hardware portfolio. This offering also supplements the expanding Surface line with new devices like the Surface Book and thus improves its ecosystem.

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