The Surprising Truth Behind HTC’s Fall.

On August 9, 2012, amid a sweltering 90 degree afternoon in Taoyuan, Chou saw the market reaction to its earnings forecast: HTC shares slipped four percent at the close, taking its decline past 50 percent for the year — this, on top of 40 percent drop in 2011. It was being beat on all fronts, and worker moral was at an all-time low. Chou fired up his PC, and started to write — a call-to-arms, so to speak — for employees to make a change.

Now was the time.

HTC’s problems are a result of poor strategic planning — a half-hearted effort to hedge both high- and low-end markets rather than a committed push in one direction. In an effort to distinguish itself from other Android makers, HTC lost focus, and began a long list of hasty acquisitions. In 2011, it scooped up London-based mobile platform Saffron Digital for nearly $50 million, and invested $40 million in U.S.-based gaming firm OnLive. It followed that up by acquiring interface designer Inquisitive Minds for $13 million and a push into cloud services with Dashwire for $18 million. In all, HTC spent more than $100 million on a gamble — a content play — to establish a beachhead in online services as part of a strategy it believed would differentiate its products from the likes of Samsung.

HTC added bells and whistles, a strategy eerily similar to the mistakes of Nokia and Sony Ericsson years ago. But rather than adding more megapixels and Walkman functions, HTC invested in a series of fruitless features, culminating in a $300 million stake in Beats Audio. Either due to poor planning, or poor execution, the services that emerged from these investments were either lackluster or mediocre at best.

To say HTC fell on hard times would be an understatement. In a six month span at the end of 2011, HTC shed an incredible $27 billion — or more than 75 percent — of its market cap. Make no mistake, the company is hemorrhaging, and as Chou wrote in an e-mail to employees in August: “We agreed to do something but we either didn’t do it or executed it loosely.”

Translation: We fucked up. Big time.

This last quarter, HTC posted a further 80 percent drop in revenue, due to lukewarm reception of its smartphones. Meanwhile, juggernauts Samsung raked in a record $7.3 billion in the July-September period, while Apple surged to become the world’s most valuable company.

Consumers barely blinked at HTC’s line of Windows 8 and Android devices, focusing instead on the iPhone 5 and Galaxy S3. Nevertheless, it hasn’t given up — it is making wide-sweeping changes from within for a turnaround.

As Chou wrote in the internal memo to employees: “We are coming back.” Optimistic thought, but it’s an uphill battle.

In the 15 years since Cher Wang and Peter Chou set up shop to build notebooks, they’ve led HTC to become one of the top smartphone makers in the world, right up there with Apple and Samsung. But since its meteoric rise and equally catastrophic fall a year and a half ago, some are now left wondering if the company has any juice left to power a comeback.

Born in Taipei in 1958, Cher Wang was around business from the beginning. As one of nine children born to the late Wang Yung-Ching, the second richest man in Taiwan and one of the wealthiest in the world, she was, perhaps, destined to run her own company.

After graduating from the University of California, Berkeley in 1982, she took a job with First International Computer to sell motherboards. With a PC in tow, she dragged components to Europe to show to clients, all while dreaming of a device she could use to call up customers, listen to music on, and most importantly, slip into her pocket.

She dreamt of a mobile lifestyle.

After founding High-Tech Computer with Peter Chou in 1997, before shortening its name to HTC, she focused on making notebook computers. It wasn’t until a volatile marketplace forced her to make a critical decision — continue with laptops, or switch to smartphones — that she would begin working on her dream device.

HTC didn’t start by building sexy devices — far from it. As a contract manufacturer for Microsoft’s fledgling Windows Mobile platform, it assembled white label devices for other brands. The company experienced moderate success, but without its own label, profits came from low-margin, high-volume orders — a hyper-competitive industry that competed on scale and cost.

As HTC was gaining ground as a phone maker, Google was also eying the mobile market. In 2005, the Internet giant scooped up Andy Rubin, the founder of Danger, maker of the popular Sidekick, and his 22-month-old start-up. While not much was known about the secretive company — it had yet to introduce a product — it was working on a project, dubbed “Android.”

The years that followed were shrouded in mystery, but in 2007, Google, enlisting the help of HTC and T-Mobile to develop the G1, known overseas as, coincidentally, the “Dream.” It would be the first device to run Google’s Android operating system.

Then, HTC made its boldest moves yet, shifting allegiances to Google from Microsoft. The jump became the catalyst for phenomenal growth, backed by the worldwide surge of Android that pushed HTC to the forefront of the smartphone revolution. Meanwhile, Microsoft, which pioneered the mobile operating system, was left behind, unable to innovate and compete with Google and Apple.

By partnering with Google from the onset, HTC unknowingly led the charge into the nascent smartphone wars. Until then, feature phones had largely dominated, each offering their own combination of multimedia functions, such as cameras, music players and proprietary software. Longtime stalwarts, such as Nokia, Sony Ericsson and LG, would one-up one another with ever-increasing megapixels and add-ons, but miss shifting consumer demands, eventually ceding market share to early smartphone adopters like Apple, Samsung and, of course, HTC.

“It was a great journey for us,” Chou said in an interview at the AllThingsD conference. “Over the years, we began partnering with companies like Microsoft and Google. Then we shipped the world’s first Windows phone, the world’s first Android phone.”

HTC’s golden era saw a string of firsts, including the Nexus One, Google’s first self-branded Android device, forging a partnership poised to dominate the market.

“Where there used to be nothing,” Lois Fagan, Sprint’s head of phone selection, told the Wall Street Journal. “Now they’re a force to be reckoned with.” Its transformation into a smartphone powerhouse was complete.

Not to rest on its laurels, in 2008, HTC took a page from Apple’s playbook and acquired One & Co., a 20-person San Francisco studio that got its start designing snowboards. Realizing aesthetics are as important as function, HTC tried to separate itself from a crowded Android market by combining sleek form with robust function. By now, Google was growing at breakneck speed, and offering Android to any handset maker who wanted it. So HTC heavily invested in its own software, dubbed “Sense,” a clumsy interface that ran atop Android for a customized look and feel, mainly to differentiate itself.

In 2010, at the peak of HTC’s success, it released the Evo 4G, the first 4G-capable smartphone in the U.S., to compete against the iPhone. It would also mark the start of its eventual decline.

In 2011, HTC released a slew of forgettable devices, from the music-centric Surround to the ill-fated Facebook-focused ChaCha and Status. HTC, then, had a difficult decision to make: begin to build a product brand, like Samsung, or cede the high-end and switch gears. Unfortunately, HTC would choose the latter, and focus efforts in China and India, proving costly in both wasted time and, ultimately, wasted resources.

Unlike North America and Europe, emerging markets are extremely price-sensitive, and local rivals, like ZTE and Huawei, produce far cheaper, low- to mid-tier devices, dominating the sector. HTC, meanwhile, tried to make inroads with high-end devices, with no intentions to offer a low-end solution.

“We don’t want to destroy our brand,” Chou told AllThingsD. “We insist on using better materials to make better products that offer premium experience.”

The company, whose products cost 2,000 yuan, or around $315, refused to cut it to less than 1,000 yuan, effectively pricing itself out of the region. Last year, according to Gartner, HTC had a meager three percent share in China, compared to Apple’s 10 percent and Samsung’s 20 percent.

HTC was squeezed in the middle — by Apple and Samsung on the high-end in North America, and ZTE and Huawei on the low in China and India.

On the high-end, HTC was outgunned by brand value. In an industry where products were increasingly-homogenized, brand was, and will be, largely the deciding factor for success — a customer expectation for a particular product line they’ve experienced in the past. On the low-end, the strategy was simple: cut costs and sell cheap smartphones packed with features.

Both seemed easy — in theory.

Nobody ever says they bought an Apple, not unless they came back from the supermarket. Rather, people say they bought an “iPhone” or an “iPad.” Apple is the company, not the brand. In the 1980s, Apple was a product brand — it was an 8-bit personal computer. But early on, the company made one key decision that would set it down its winning path: it decided to build a franchise brand for its business product, called the “Macintosh.”

The importance of a brand is well known, people don’t buy what what a company makes, people buy why they make it. And nowhere is that emotional reaction more important than in an industry that sells increasingly-homogenized products — like Android smartphones.

The problem with branding the company is that it pigeonholes it to a product, hindering it from expanding elsewhere. For example, when people think of “Google,” they usually think of “search.” When a company expands into too many unrelated industries, the brand gets diluted. A solution is to create a franchise, or sub-brand, such as Android, giving the company — in this case Google — a stronger appeal to a particular market. It also frees the parent brand to pursue other ventures — it’s the difference between Proctor & Gamble and Coca-Cola.

After a significant slowdown over the last two years, HTC is in survival mode, and its problems are no simple fix. To truly understand the gravity of the situation is to understand the consumer mindset. Unlike Apple, HTC and other handset makers don’t own their own proprietary software. They must instead rely on either Android or Windows platforms, resulting in little distinction between their products.

Due to confusion in the market, consumers are drawn to what they know and expect, either through past use or marketing. But no longer is a company’s brand specific enough — Verizon understood with its Droid line, just as Samsung did with the Galaxy. Nokia only recently acted upon it, now pushing its Lumia franchise. And to a lesser extent, Sony and LG understood, but poorly execution led to lackluster sales on the Xperia and Optimus lines. HTC, the laggard, has the One.

HTC is pushing its brand, but mass awareness takes time since a reputation is built over time by releasing a string of strong-selling products. In hindsight, the most damaging move was applying a high-end strategy to a low-end segment. Not only did this fail on both ends, but it wasted valuable time — time it could have used to develop a brand. Now, a year late, HTC has much ground to make up.

HTC plans to offer the One X+ and VX on AT&T. Both will run on Google’s latest Jelly Bean software, and compete directly with Samsung’s S3 and Apple’s iPhone 5. In addition, by teaming up with Microsoft, the company developed the 8X and 8S — both running on Windows 8 software.

Three of the four major U.S. carriers will push it as a flagship Windows device during the holiday shopping season, giving HTC a much-needed stopgap to help separate it from the pack. But HTC’s problems won’t be corrected in one quarter, or even two or three. Just as the downward spiral took nearly two years, it will take just as long to rebuild. And analysts agree that demand for HTC’s products will fall significantly short of flagship sales from Apple and Samsung during this valuable holiday season and beyond.

Samsung is a conglomerate that sells everything from smartphones to flat screen TVs. By focusing efforts on building a franchise around its Galaxy line, branding the Galaxy S, Galaxy Note and Galaxy Tab, the South Korean company created a dominant position based on consumer recognition for its mobile devices, rather than content, and boosted demand and preference within the Android marketplace. The underlying value of the Galaxy line helped to insulate Samsung from the plethora of similarly-featured Android products, and increase its market share at the expense of HTC.

Meanwhile, Apple, already one of the most valuable brands in the world, chose to emphasize a content push — a strategy not unlike HTC’s. But unlike HTC, Apple had the advantage of significant brand equity, and the iPhone and iPad maker pushed to expand its app ecosystem, releasing iBooks and adding Siri voice recognition, features to boost smartphone capabilities rather than enhance multimedia. The result was a stickier ecosystem, tying consumers to the unique services of iOS, and by extension, Apple — a strategy unavailable to Android partners.

With every stumble, speculation increases that HTC may become a takeover target. Given its plunging stock price, the company is now trading at only eight times earnings, compared to Apple at 14 times. In 2012, HTC is down more than 50 percent — or around $6 billion — off its market cap, making it a relative bargain. Chinese companies like ZTE and Huawei have been speculated as possible suitors, which may be looking to make a switch into high-end devices, as well as Lenovo, which seeks to expand distribution and enter the smartphone market.

But realistically, the value of such a buyout — as was the case when Google paid $12.5 billion for Motorola — is in the value of its patent portfolio. Google acquired over 17,000 patents in the transaction. HTC, meanwhile, holds less than a tenth of that, making it significantly less attractive. In addition, a Chinese buyer would need Taiwanese regulatory approval before acquiring HTC — a sticky matter in the world of foreign relations, to say the least, adding to the difficulties of a deal.

HTC’s early successes, from the first Windows phone to the first Android device, were a result of its reactionary nimbleness. But as of late, bureaucracy has become major obstacles within the organization. The market changed, leaving HTC behind. You can blame poor strategy or poor execution, a lack of internal communication or a lack of vision.

The company knew the plan all along, and just like a Greek tragedy, it lost its way amid the early success. Realizing past mistakes, it now seems firmly committed to taking the high-end road rather than competing on cost. It knows what it needs to do, and it has chosen its path. But the question that remains is whether it can still effectively execute.

Samsung’s Galaxy brand has had a year and a half head-start, nearly an eternity in the hyper-fast landscape of mobile devices. And an HTC turnaround will largely depend on its ability to produce not just top-quality devices, but a string of them — to build a brand to the level where it can not only differentiate its products by features and hardware, but by a consumer expectation of a mobile lifestyle — its very first dream, the one that launched it into smartphones in the first place.

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