Overweight on iPhone plays \::Macquarie Research,

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Overweight on iPhone plays
Event
 We provide an update on changes in the smartphone landscape, including
growing risks for Android patent costs, opportunities for Apple plays from 4Q11,
and progress of tier 3 brands. As the cost advantages of Android phones are
diminishing as Apple’s iPhone enters the mainstream market, we suggest that
investors be more selective on Android plays and accumulate shares in Apple
plays entering the high season.
Impact
 Increasing patent cost for Android players on MSFT and Apple initiatives:
MSFT and Apple have recently been chasing Android players for licensing deals
on patent infringement claims. Android suppliers such as Itronix and Velocity
Micro have already come to a payment agreement with MSFT while Motorola and
B&N are battling MSFT in the courtroom. MSFT reportedly has asked Samsung
to pay a royalty fee on Android smartphone; other Android makers are likely to
face rising patent costs. Apple, on the other hand, has recently filed a patent
infringement lawsuit against major Android smartphone players including HTC
and Motorola on mostly touch-related patent. We believe Android’s low cost
advantage will be removed due to mounting patent fees. In addition, the high end
smartphone market is maturing, and hence we expect rising ASP pressure and
rising costs may result in potential margin risks in 2012.
 Apple will enter the mainstream market with aggressive pricing strategy: In
the high-end market, we expect to see robust shipments for Apple’s iPhone 4S
when it is launched globally in September. In the mid to lower end markets, we
believe the market is unaware that, in addition to iPhone 3GS which Apple will
continue to sell (likely to reach 12m in 2011), Apple may de-spec iPhone 4 with a
slashed price to further gain share in the mainstream segment. We believe
Apple’s total iPhone sales (iPhone 4S, 3GS, and de-spec iPhone 4) in 4Q11
could see significant growth.
 Tier 3 Android brands making another big move: We have highlighted
previously that the global smartphone share of tier 3 brands has doubled from
6.4% in 4Q10 to 11.75% in 1Q11 (see Figs 1–5). According to Commercial Time
today, Huwei has raised its 2011 Android phone sales target from 12m to 20m
(up from only 3.3m in 2010). Our China telecom equipment analyst, Lisa Soh,
also expects robust smartphone shipment growth for ZTE (from 2m in 2010 to
12m in 2011) and TCL (from 0 in 2010 to 3-5m in 2011). We believe these brands
are taking significant share among consumers who do not want to upgrade to
high-end smartphone and we believe this area will grow the fastest in 2012.
Outlook
 Investors should turn OW on Apple iPhone plays ahead of 4Q11: We
believe Hon Hai will remain the major EMS for most of the mainstream iPhone
models while Pegatron is likely to be another second source beneficiary,
thanks to its legacy relationship from Apple’s CDMA iPhone 4. Component
beneficiaries should include: TPK, Largan, and TXC. Due to fundamental
concerns, we would avoid Wintek (margin risk). In addition, we expect
significant ramp-up in production volume on NAND flash as iPhone uses more
NAND flash than rival models, and this should have positive impact for the key
suppliers Toshiba and Samsung.
 Be selective on Android plays: In view of rising competition, we prefer
Android plays with strong share gains momentum – Samsung (Galaxy S 2) and
Catcher – while we maintain our cautious view on HTC