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Microsoft faces quandary in aping Apple and Google

(MoneyWatch) Microsoft (MSFT)'s $7.1 billion deal for Nokia's device business is a clear effort to regain the ground it has lost over the years in the mobile platform arena to industry leaders Apple (AAPL) and Google (GOOG). Yet while the acquisition achieves Microsoft's goal of pushing deeper into hardware, the software maker faces a conundrum that could hamstring, and even doom, its mobile strategy.

Google and Apple have followed fundamentally different business models in mobile. Google makes its Android operating system available to hardware vendors, which then build devices around the platform. That results in less control for Google, but a larger number of companies trying to innovate their way into hit products. Android has close to 80 percent market share, according to IDC.

By contrast, Apple controls everything about its mobile devices from the software design to the outsourced hardware manufacturing. Although that maximizes Apple's control over its products, it also curbs innovation and variety because there is only one source for iPhones and iPads -- Apple. Still, the company's platform has about a 13.2 percent market share and is extremely profitable, as its financial filings have shown year after year.

Why is Microsoft buying Nokia's mobile phone business?

Much as it did with PCs, Microsoft has used a model of selling mobile software to multiple hardware vendors. That approach was aimed at promoting adoption of its mobile platform and boosting the revenue Microsoft gets from device makers use it. The problem is that Microsoft's frequent and documented stumbling in mobile sent its market share tumbling down.

Microsoft did a deal with Nokia more than two years ago to put Windows Phone on the latter's phones. Nokia accounted for about 80 percent of all sales of Windows Phone handsets. Despite that partnership, Microsoft has only 3.7 percent of the mobile market, while Nokia long ago sank into financial distress.

So Microsoft said that it would buy the devices business from the Finnish manufacturer. That is a move toward the Apple model, where Microsoft is giving up on working with others. Here's the problem: Microsoft isn't fully embracing the Apple way of full control over its mobile gear. The software giant still says, as it does in the tablet arena, that it wants other hardware vendors to build devices using its platform.

Unlike Google, Microsoft does charge for Windows Phone, and one of the big reasons for its lack of adoption by vendors is that the license fee is too high. For its partnership with Nokia, that amount has been less than $10. Now, owning the Nokia device group, the profit should be the more than $40 per unit Nokia got plus that license fee, which would have been a cost before profits.

All other handset vendors will look at this and realize that any money they make on Windows Phone handsets will help subsidize Microsoft, which is now their competitor as the software company revs up its hardware business. In fact, such Microsoft partners as Samsung and HTC have studiously avoided comment on their interest in Windows Phone following the Nokia deal.

The upshot: Microsoft can't be Google because it can't offer the software for free, and it can't be Apple because it doesn't know how to sell premium mobile devices at a high profit. Indeed, it cant' even be Microsoft now that it is competing directly with mobile hardware sellers that were once its partners.

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