SINGAPORE: When Chinese smartphone maker Xiaomi first won approval two weeks ago for its planned initial public offering (IPO), bullish analysts from Morgan Stanley claimed a “fair valuation” of the start-up should range between US$65 billion to US$85 billion.
While Apple is valued at 14.5 times of its estimated 2019 earnings, Xiaomi is valued at 27 to 34 times of its forecasted 2019 earnings - that's twice of Apple’s.
In other words, investors are willing to pay Xiaomi twice the price for every dollar earned, compared to Apple. This is an impressive estimate considering that Xiaomi is the world's third largest start-up, and remains privately held by venture investors.
One inescapable fact Xiaomi faces is that it can’t simply outcompete Samsung, Huawei, Oppo and Vivo. To justify its lofty valuation, Xiaomi needs to disrupt another industry. The question is where.
XIAOMI’S SECRET STRENGTH? ITS OPERATING SYSTEM
At the heart of a Xiaomi phone is its pre-installed Android-based operating system (OS), MIUI, which allows consumers to customise the user interface and advanced users to tweak the otherwise hard-coded firmware of their handsets.
Unlike other Android skins, MIUI is a service layer baked into Android to lock users into its array of offerings. From its own app store, to selling popular themes and cloud storage, MIUI is a self-sustaining ecosystem.
For CEO Lei Jun, Xiaomi’s success lies in its ability to rely on its “hardcore fans” to generate word-of-mouth marketing.
Every week, the company releases a new version of MIUI it co-develops with leading users, responding to their feedback via online user forums and other Internet resources, a feature that resonates especially with young users.
It is by far the only Android skin that is motivated by user input. As of December 2017, MIUI has over 300 million global active users.
By outsourcing the design and features of its OS to an online fan base, Xiaomi also lowers the cost of software development and keep its end users excited. Lei Jun said in an interview in 2013:
When Apple develops its iOS 7, prior to the release you have no idea what they will do with it. It’s not like that for us. We first ask what you want … Xiaomi is not selling a product but an opportunity to participate.
Xiaomi’s major breakthrough, therefore, is the realisation that a product’s best feature will never be invented in-house. Killer apps must be invented by users instead.
AN INTERNATIONAL ICON, A ROCKET SHIP FOR OTHER START-UPS
Perhaps more than any other Chinese company, Xiaomi is fast becoming an international icon.
One killer feature its phones in India have is the automatic function that switches off Wi-Fi hotspots when the data limit is reached. And during the final quarter of 2017, Xiaomi toppled Samsung as the top smartphone seller in India.
This power of embracing external ideas should not come as a surprise, however. As perceptive as Steve Jobs was, he couldn’t have predicted that the most prominent functions of his iPhone would be hailing a cab (Uber) and taking automatically deleted pictures (Snapchat). No single company could have come up with both of these killer apps.
What makes Xiaomi unique is that Lei Jun took the logic of an open innovation approach and applied it to other product categories. For this reason, Xiaomi, still a start-up itself, had, by March 2016, invested in another 55 start-ups creating products from power banks to air purifiers.
Of these companies, 29 were incubated from the ground up by Xiaomi, and four are already unicorns worth more than US$1 billion – including Huami, the maker of Xiaomi’s fitbit Mi band.
“Our ecosystem gives customers unusual new products they never knew existed,” declares Wang Xiang, Xiaomi’s senior vice president, referring to a Bluetooth speaker, an Internet-enabled rice cooker, and the first affordable air purifier in China – all products Xiaomi sells but built by independent start-ups.
These independent start-ups get access to Xiaomi’s brand and distribution – its online channel, its app, and its 300 offline stores. But Xiaomi only takes “non-controlling shares” and leaves “maximum interest to the start-ups” so that “they are much more incentivised and willing to fight on the front line,” explains Liu De, co-founder and vice-president of Xiaomi.
As of the fourth quarter of 2017, Xiaomi was the world’s third-largest wearables maker by volume, and only behind Apple and Fitbit.
De-emphasising Xiaomi’s role in telecommunication devices could be a smart move, particularly with the recent blow up of ZTE and Huawei.
The idea of branching outside mobile phones and reinventing a broad electronic industry also fits well with Lei Jun’s grander vision.
After all, to become twice as good as Apple, Xiaomi can’t afford to be a mere follower.
Howard Yu is the LEGO professor of management and innovation at the IMD Business School in Switzerland and Singapore and the author of LEAP: How Businesses Thrive in a World Where Everything Can Be Copied, the Financial Times's June Business Book of the Month.