Revisiting the Mullet: Why Surface is not a MS Business

A few weeks ago a bunch of people (who should know better) were running around like chickens with their heads cut off yelping “Surface will be $199!”

Exasperated, I wrote a post1 describing just how idiotic a concept that would be. I showed that even if Microsoft was serious about Surface being a real business, it could never sell it for $199 this fall. I promised to wear a Kasey Keller like mullet to Build if I was wrong.

In that post, I asserted that

I think it is far more likely that Microsoft will sell the Surface for $599. They’ll sell every one they make at that price and earn a respectable 20% margin (maybe 3 million in 12 months; maybe). And in so doing, will support the broader ecosystem that is required to keep the existing Windows business profitable by shipping 350 million PCs next year.

It turns out the Surface with a cover is $599. Without, it’s $499. I had done my back-of-the-envelope math assuming it did not include a cover. Thus I was very, very wrong when I said Microsoft will “earn a respectable 20% margin”.

The $499 price means Microsoft will not make any real margin2 on the Surface.

They may make some profits on the cover, assuming the cover isn’t ridiculously expensive to make (it might be). But even then there is no way the amount Microsoft will make will come close to the $85 they are reportedly charging OEMs for Windows RT licenses.

Worse, every Surface that sells is one less non-Surface Windows RT unit that sells meaning Microsoft not only doesn’t get the $85 from the Surface sale (they’ve priced it so close to wholesale there’s no margin in it) they won’t get $85 from the OEM.

Surface is a North star product for the Windows business. It is not a “Microsoft business” (Microsoft businesses generate $5B+ a year in PROFIT). The Windows business makes $11.4B in PROFIT every year. This profit margin is under pressure from the price of a Windows license being forced down. Surface makes this worse and provides no path to recouping that profit via other means.

I don’t know how MS plans on generating more profit with Windows. But I’m really sure it is NOT Surface.

 

1A $199 Surface? I Will Wear a Mullet

2Retail Pricing, Markup, and Margins

© Charlie Kindel. All Rights Reserved.

20 comments


  1. Walt French

    Yet again your insights/intuition seem pretty damn good. And the math/logic.

    So why is Microsoft touting “devices, devices, devices?”

  2. fluxman

    Assume, for the sake of argument, that the Surface business only breaks even at best, after the Surface business unit pays licensing fees to the Windows and Business divisions. That would drastically lower Microsoft’s margins. And as you said, one Surface RT sold is one fewer OEM RT product sold. But another way of looking at it is that it’s one fewer iPad sold and one fewer Android tablet sold. The Surface as a North Star will only be deemed successful if OEMs are spurred to come up with products that can steal sales away from the iPad. If that doesn’t happen, don’t you think Microsoft will simply continue to gladly book low-margin profits while growing the Surface business and improving their supply chain management?

  3. MulletTime

    On a more serious note, which mullet are you going to wear

  4. JohnDoey

    Surface is not for customers, it is for Microsoft investors and executives, so that they can pretend they have an answer to iPad.

    • Steve Jobs is a Faggot

      crApple’s stinky and shitty iPad is not for customers. It’s for Steve Jobs’s (who was a faggot btw) cocksuckers. That’s why crApple’s pathetic and stinky and fugly Mac OS has less than 4% market share, while Windows has 95% market share.

  5. waynechng

    It’s obvious that profit model for Surface is not actually Surface but MS Office. This is the gap that the iPad can’t fill because it’s designed a media consumption device. It also answers why MS hasn’t launch Office for the iPad, and now it never will because Office is where MS is going to cleanup with the Surface.

  6. SkyDrive could be something Microsoft hopes to get ancillary profit from with Windows 8.

  7. Microsoft lost hundreds of millions on the XBox in order to get into the market. They became one of the top 3 players as a result. I see no reason why they wouldn’t be willing to lose hundreds of millions, or even billions, in order to make Surface a player.

    IMO their goal is NOT to make Surface a viable, profit-making product. Rather, it is to show that they’re serious about putting “Windows Everywhere,” their decade-old philosophy, into practice. They want people to become comfortable using the “Modern” (nee “Metro”) interface everywhere. Considering their lost decade of tablet failure, no companies were going to jump at making a tablet with that UI. They had to buy a mobile phone company to make sure that someone would make phones with that UI after the failed Windows Phone designs virtually pushed them out of the market.

    Surface and the new Windows phone are basically an attempt to make Windows relevant again. However, I predict that both the phone and the tablet will end up being JAZ: Just Another Zune.

    • Walt French

      I can’t find a flaw in your reasoning, but if it’s actually correct, I could argue with Microsoft’s.

      If indeed it takes giveaways to establish Big Tiles®, then all Microsoft will have done is establish firmly the principle that the OS is not worth paying for. All the value will be perceived to be in the hardware, over which Microsoft has much less control than say, Samsung, Apple, Intel, etc.

      Hard to climb back from that.

      Not that it’ll be a super wonderful deal for its OEM partners, either, this establishment of zero-margin hardware. I’ll guess we are seeing the end of the transition from craftsmanship to commodity, ironically effected by a very nicely designed product that is not ready to be made in high volume.

  8. Charlie Kindel may be I am missing something, but in either of the options below MSFT makes about the same $:

    1) Sell Windows RT/8 license for $85

    2) Sell Surface for $500 with a BOM of $400.

    Ignoring sales & marketing costs and assuming minimal marginal costs, in either option, MSFT should make about $80 or so.

    This is not to deny that Surface is NOT a business for MSFT, but I still don’t get why ALL ELSE BEING EQUAL, option 1 is better than 2.

    • Saad,

      First, the money MS (or Apple) make on selling a device is not MSRP – BOM. It is MSRP – COGS. COGs include everything in the supply chain, including sales, and support. When MS sells a PC via an OEM, the OEM pays retail costs and support.

      Second, Google and Amazon are squeezing margins out of the hardware business like crazy. And they won’t relent. It has not yet hit Apple, but Apples margins will be squeezed over the next few years and they have a deep/broad/optimzied vertical market.

      Thus the impact on lower margins for HW products mean there’s no way MS is going to get anywhere near what they get via

      If MS is serious about selling the volumes of Surface required to actually be meaningful (from a volume perspective); say 10s of millions, they will need to compete (partially) on price. Thus the $499 they ask now will have to go down, further eroding margins. PLUS, that will undercut their OEM partners which will, in turn, DRIVE THE PRICE OF WINDOWS EVEN FURTHER DOWN.

      • With iPad’s (basic model) BOM of about $350-360, there is not a HUGE difference between what Apple makes from an iPad vs. what MSFT makes from a Surface (basic model). And if MSFT ends up selling decent volume, it will only help drive down the BOM (indeed one area where Apple has been able to do very well because of its huge sales volume). So with that in mind, I am still not sure whether we can call Surface a zero margin business, or definitely a worse option than selling a license.

        I do agree that MSFT is better off (strategically) not to irk its partners,a and let Surface be a north star rather than business in its own right. This is why I said “ALL ELSE BEING EQUAL” it doesn’t sound like selling a Surface vs a license is so bad.

      • Moreover, $85 sounds like even harder to sustain than any margins MSFT is making on the Surface RT itself. For OEM’s to compete against the iPad, price point for Windows RT has to come down, or the OEM finds it really hard to make money at a competitive price and therefore chose Android over Windows RT.

        In other words, I really wonder whether option 1 (licensing) is any better than 2 (selling Surface), purely based on margins. Of course, option 2 comes at the expense of alienating the very partners that MSFT sorely needs.

Leave a Reply

Your email address will not be published. Required fields are marked *

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <strike> <strong>