Xiaomi claims it’s a services company, but it’s really not

As Stratechery pointed out, it’s conventional wisdom that Xiaomi is an Internet services company. That selling smartphones at break-even prices is merely a gateway for selling profitable services. Except this might all just be a marketing ploy, because Xiaomi does make money from hardware, and quite a lot of it.

As much as 92% of Xiaomi’s 3.46 billion yuan profit (or $566 million US dollars) is from hardware. That’s profit, not revenue.

Let’s start with how Xiaomi’s CEO, Lei Jun, describes the company:

We’re actually an Internet company. We’ve already got a business in mobile phone hardware and we want to add to that an Internet platform. We can earn money from that, once it’s established. People just don’t get it. The mobile phone itself is only the carrier. Microsoft used to sell Windows in a box with a CD in it. Does that make Microsoft a paper box company? The box and the CD are only the carrier. If people don’t understand this, they can’t understand [Xiaomi].

Wouldn’t Microsoft be a paper box company if paper boxes actually generated 92% of its profit? If people cared more about the paper box than whatever’s inside?

An Internet company might be what Lei Jun wants Xiaomi to be one day, but right now it’s squarely a smartphone company.

The Wall Street Journal obtained a leaked bank document containing Xiaomi’s financials. Here’s the good stuff:

Xiaomi recorded revenue of 27 billion yuan in 2013.

Only 1% of it that is from services, or 270 million yuan.

Overall net profit is 3.46 billion yuan.

Let’s be generous and assume 270 million yuan of services’ revenue is pure profit.

That leaves net profit of non-services at 3.19 billion yuan, or a profit margin of 12%. At least.

So 99% of Xiaomi’s revenue is non-services, as well as at least 92% of net profit. It sure does seem like Xiaomi is a hardware company.

xiaomi

How are they able to do this when they sell their phones so cheaply? The flagship Mi4 retails for $330 and is comparable to high end phones like the Samsung Galaxy S5, which sells for nearly twice as much unlocked. As previously detailed in “Blueprint for starting a smartphone company,” there are several factors at play:

1. Component costs decline rapidly. So a phone that launched at cost — not accidentally, in highly limited quantities — can often be sold for a profit later.

2. Because Xiaomi uses social media so effectively, it doesn’t spend much on marketing and yet is able to generate enormous awareness and demand.

3. Because Xiaomi only makes phones they know they can sell, and because they sell direct, they don’t spend money on inventory, warehousing, etc.

4. According to Stratechery, Xiaomi also doesn’t pay intellectual property licensing costs, which can be up to 30% of revenue.

So the next time you see Xiaomi boasting about how it doesn’t make money from selling phones, think again. Profit grew 84% from 2012 to 2013, and the company expects profit to grow that further by 75% this year. Wow!

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