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Samsung earnings sapped by potent Chinese rivals

After flagship smartphone fails to deliver, company banks on new foldable device

Samsung's smartphone market share in China fell to 1% in the January-March quarter.   © Reuters

SEOUL -- Samsung Electronics stumbled to a decline in second-quarter earnings as the world's largest smartphone maker struggled to mount a comeback in China, where local competitors continue to gain market share.

April-June operating profit dropped 4.9% from the previous quarter to 14.9 trillion won ($13.3 billion), while revenue fell 3% to 58.5 trillion won, Samsung said on Tuesday. The South Korean company's operating profit rose 5.7% on the year, but revenue slipped 4%.

The decline was deeper in the company's information technology and communications division, which focuses on smartphones. The division's operating profit tumbled 29.2% on the quarter to 2.7 trillion won as sales of the latest flagship smartphone model, the Galaxy S9, proved disappointing.

Samsung's presence in the Chinese smartphone market has nearly faded out. Its once double-digit share in this key battleground hit 1% in the first quarter, down from 3% a year earlier and 8% in the first quarter of 2016, data from Counterpoint Technology Market Research shows.

In contrast, Chinese rival Huawei expanded its market share to 22% in the January-March period, up from 20% in the first quarter of 2017 and 16% two years ago. Fellow Chinese player Oppo's share grew to 18% for the first three months of this year from 17% last year and 10% two years ago.

Chinese producers also are chasing Samsung in India, one of the fastest-growing smartphone markets. Samsung led the country with a 29% share in the second quarter, edging Xiaomi at 28%.

A source familiar with Samsung's smartphone strategy said that the company acknowledged the challenge presented by Chinese competitors.

"Samsung executives feel threatened by Chinese makers. They believe Chinese players are just one step behind them," said the source who requested anonymity. "It is difficult to deal with them because they are multiple players and each company uses a different strategy in the market."

Samsung's answer hinges on what it sees as a game changer. The company plans to release a foldable smartphone early next year, possibly the first of its kind, to celebrate the 10th anniversary of the Galaxy series.

On Tuesday, the company said that it is optimizing software and services for the new model to satisfy consumer expectations for a foldable phone, as well as increasing durability of the display and battery.

"We expect this to be a catalyst for the sluggish mobile market," said Lee Kyung-tae, an executive for the company's mobile business, during an earnings conference call. "After the product is ready, we will hold an event to announce the launch schedule."

Lee admitted that Samsung has faced numerous challenges while developing the foldable device. He said the last few years has been spent studying solutions for the display and battery case, along with examining possible user scenarios.

Samsung's foldable device, expected to be named Galaxy X, would feature a 7.3-inch seamless display and be no thicker than an iPhone 8 or iPhone 8 Plus, said a source familiar with the matter. "In durability testing it could be folded 20,000 times, and the price will likely be between $1,500 and $2,000," the source said.

Samsung also seeks new growth engines beyond smartphones -- an effort led by Vice Chairman Lee Jae-yong. The heir of ailing Chairman Lee Kun-hee is aggressively hiring talent in the artificial intelligence sector, looking to connect the company's devices to AI software as part of the "internet of things."

By 2020, the South Korean manufacturer aims to have 1,000 AI developers working in five countries. Samsung appointed ex-Google AI developer David Eun as its first chief innovation officer in May. Since joining the company about six years ago, Eun has forged partnerships with startups and worked on investments.

Samsung did not officially announce the creation of the new post, but an executive said the chief innovation officer will "cultivate new businesses of the future on themes like AI and the 'fourth industrial revolution,'" using a term for networked machines.

That same month, Samsung opened AI research centers in the U.K., Canada and Russia, joining an existing hub at home and one in the U.S. Each center will capitalize on research strengths and connections in its country, with the British hub working on data analysis, the Canadian site handling voice recognition and the Russian operation focusing on physics. Samsung did not reveal the current size of its AI engineering staff but plans to have 600 technicians in South Korea and 400 abroad by 2020.

Second-quarter results showed weakness beyond smartphones. Operating profit in the display segment plunged 65.9% from the previous quarter to 140 billion won as prices of liquid crystal display panels fell.

The group's semiconductor business grew slightly on the quarter, with operating profit rising 0.5% to 11.6 trillion won. The consumer electronics division enjoyed a 82.1% increase in operating profit to 500 billion won, thanks to high demand for large-screen TVs amid the 2018 soccer World Cup.

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