Microsoft’s Surface Tablet for $199 –Think Again

by Tim Bajarin   |   August 17th, 2012

There were various reports about Microsoft pricing their Surface Tablet for $199 this week and it caused a lot of media and even consumers to hyperventilate about this possibility. Sure, many with wishful thinking would like it if the Surface is priced this low, but the chances that this will happen are slim to none.

I spoke with my contacts in Taipei and they pointed out that the bill of material cost of the Surface is at least $250 and could be as high as $300 depending on the configuration. For Microsoft to sell this at $199 they would have to take a serious loss on this product, something that in all my years of covering Microsoft, they have never done.

Indeed, their pricing goes in the opposite direction, especially in software where their mark-up could be as high as 70-80% depending on the product. And while the margins on the XBOX are much lower, the idea that they would sell this game console under cost is ridiculous.

The only companies that can afford to sell hardware under cost are Amazon and Google. In these cases, the hardware is almost a loss leader so that they can offer products and services through the device. In Amazon’s case, they amortize anything that is bought through the Kindle tablet for a period of time so that in the end, they actually book a small profit. However, the real goal is for consumers to continue to buy eBooks, music, movies and products through this portable tablet that is at people’s fingertips and makes buying these products very easy.

And Google’s model is similar although we believe they sell their Nexus 7 close to cost and then amortize money made through advertising related searches as well as Google Play to bring in any profit tied to their tablet itself.

But Microsoft does not really have enough successful services that they can count on to bring sufficient additional revenue to the Surface if they price it at $199 in order to make up the actual BOM cost as well as make any profit on the device itself.

The pricing of Surface will most likely start at $499 for the 16 gig model and move up from there based on additional memory or accessories. And these prices are more in line with business products like the Surface anyway.

Now I heard one theory that circulated that Microsoft is so far behind in tablets that they might price it at $199 just to buy into the market for tablets and gain a foothold through aggressive pricing. While that is a possibility, Microsoft’s history does not suggest that they do these types of things just to buy market share.

While this first version is coming from Microsoft, their hardware partners have been reaming them for doing this and have been lobbying hard to get licenses from Microsoft to do their own versions of Surface as well. We believe Microsoft may consider this at some point but if they priced it at $199 and well under cost, this would set the pricing for future models from partners and none of these partners are in a place to sell any hardware at a loss.

The most likely scenario that will play out is that the first generation of their Surface tablet will be around $499-$599 and if they have problems moving big numbers, they can always reduce pricing to move them. But if they priced it at $199, it would be impossible for them to up the price at anytime in the future since pricing a product higher then when it came out most often spells the death of that product.

While Microsoft’s Surface tablet does seem to have potential and serious interest at least from business customers, I highly doubt that Microsoft will enter this market just to lose money. That is why the idea of selling this way below cost does not make a lot of sense.

Tim Bajarin

Tim Bajarin is the President of Creative Strategies, Inc. He is recognized as one of the leading industry consultants, analysts and futurists covering the field of personal computers and consumer technology. Mr. Bajarin has been with Creative Strategies since 1981 and has served as a consultant to most of the leading hardware and software vendors in the industry including IBM, Apple, Xerox, Compaq, Dell, AT&T, Microsoft, Polaroid, Lotus, Epson, Toshiba and numerous others.
  • FalKirk

    I don’t have any sources, like you do, Tim, but my “spidey-sense” is telling me that this $199 Surface Tablet is another “asymmetric screw” – a rumor with no foundation and no credibility.

    • benbajarin

      I agree. Tim actually wrote the column and I forgot to post it under his name when I inserted the text. But he and I spoke about this and the model for PCs this just doesn’t work. If MSFT does this there is a good chance they lose many key partners or put them out of business. Microsoft depends on their survival. $199 surface could be a death blow to the windows Ecosystem.

      • FalKirk

        Thanks. I fixed my comment.

        There’s big parts of me that desperately wants to overanalyze this move…but since I think it’s a crock, I’ll forgo the temptation!

    • jfutral

      Just my un-informed opinion here. While I believe MS and their old relationships with hardware makers is headed for the exit door (If Acer really believes they do hardware better than MS, then they should just do it because they haven’t done it yet), IF MS is not headed that direction then how likely is it that they would be willing to do lose that kind of money for a brief introductory period, say 6 months, and then cut the device to let their OEMs take over if they can feel W8 on a tablet has legs?

      Joe

      • benbajarin

        Overall, my feeling right now is that the Windows ecosystem as supported by hardware partners currently, is going to look drastically different in 5 years. I am not sure yet whether that will be good or bad, although I have a hunch.

        I’ve thought through your point and the issue remains that once a certain price gets in the market and consumers are used to it, it will be established for the most part. It will be very difficult for others to sell that hardware at a few hundred bucks over this initial low price.

        So MSFT and others with the pricing of these machines initially need to be very careful at what they set the market expectations. Consumers can turn quickly on companies and I am confident that they can turn very quickly on MSFT and partners if they are not careful.

        • jfutral

          Point taken. Then it pretty much leaves (especially as the Surface still hasn’t “surfaced” in retail outlets so costs are still educated guesses) just what will be the real affect of Surface? Will it be more of a concept car? Or will it really be MS competing with their hardware partners?

          Man. I wish I could see 5 years from now!

          Joe

  • Sub

    ‘I highly doubt that Microsoft will enter this market just to loose money.’

    lose not loose

    • FalKirk

      “lose not loose”-Sub

      Trust me, if Microsoft did this, not only would they lose money but they would only do it if they were very “loose” with their money too!

  • Rich

    Tim, someone said that Microsoft would price the Surface at $199 to establish Windows 8 in the market, and when I remembered Ballmer yelling about not letting Apple run away with all the customers, $199 for the Surface sounded believable to some extent. But you have a point about Microsoft’s policies – at least, their policies in the past. However $499 sounds too high considering that Microsoft is very aware they aren’t Apple in this market. I don’t think the Surface is targeting only the enterprise.

    Maybe we’re about to find out just how desperate Ballmer is.

    • FalKirk

      “$199 for the Surface sounded believable to some extent. “-Rich

      How so? A $199 Surface would cost Microsoft $100 a unit (just my guesstimate), and would destroy Microsoft’s licensing program. No manufacturer is going to license Windows from Microsoft when Microsoft is directly competing with them and selling their merchandise for $100 below cost to boot.

      Further, where is Microsoft going to make their money back? Not on hardware sales. Not on software licenses (their current model). Not on content (there’s no way to make up a $100 deficit selling content when Apple, Amazon and others are selling the same content too.)

      I’ll just leave it at that. I don’t think it deserves further analysis because I think it’s an unfounded rumor.

      • Rich

        FalKirk, I see what you’re saying but here’s a thought. Google is selling the Nexus 7 for $199, which seems to be below cost. Take what you said about Microsoft and apply it to Google: The Nexus 7 will destroy Google’s Android licensing program. No manufacturer is going to license Android from Google when Google is directly competing with them and selling their merchandise for $XXX below cost to boot.

        This statement may not apply in Google’s case, but I thought it was an intriguing idea. Let me know how you see it.

        • FalKirk

          I do think that the Nexus 7 has preempted all other competing 7 inch Android tablets. How can Samsung or anyone else put out a 7 inch tablet when they have to make their profits on hardware and Google is selling their own tablets at cost?

          Google may hope to make its profits back through the sale of content via the Google Play store or via mobile advertising, but no other Android manufacturer can hope to do the same. Other than the Nexus 7, the 7 inch Android tablet market is dead.

          A $199 Windows Surface would be even worse for Microsoft’s partners. Instead of being sold at cost it would presumably be sold for $100 under cost. No one can compete with that. And Microsoft, unlike Google, charges a licensing fee for its software. Talk about a double whammy. A $199 Windows Surface would obliterate Microsoft’s licensing model.

          Does that make sense, Rich, or did I miss something in your question?

          • Rich

            It makes sense but I was asking why the Nexus 7 wouldn’t destroy Google’s Android licensing program. But to answer my own question, Google pays (or used to pay) manufacturers to use Android, and there are products other than tablets (like phones) that use Android, so my question about the Nexus 7 may well be irrelevant.

            For Microsoft, I’m thinking the Surface will be priced somewhere between $199 and $499. And I think that Windows 8 with its weirdnesses and the Surface with its strange features show that Microsoft is flailing about, not knowing what to do with this market. The real question is what will the market do with Windows 8 and the Surface?

          • FalKirk

            “…I was asking why the Nexus 7 wouldn’t destroy Google’s Android licensing program.”- Rich

            It will. As far as tablets go, their is no 7 inch Android licensing program, there is only the Nexus 7.

            “The real question is what will the market do with Windows 8 and the Surface?”-Rich

            That is THE question and only the market can answer it for sure.

  • http://twitter.com/mp2 Manish

    “Now I heard one theory that circulated that Microsoft is so far behind in tablets that they might price it at $199 just to buy into the market for tablets and gain a foothold through aggressive pricing. While that is a possibility, Microsoft’s history does not suggest that they do these types of things just to buy market share”.
    I think that’s incorrect, from what I recall. From what I remember, has done this before with the XBox. It was a loss leader for a long time: http://www.ideasinactiontv.com/tcs_daily/2006/01/the-elusive-xbox-price-point.html

    It is probable that MSFT sells ths surface, with a similar mindset. In my mind, they have an incentive of selling it under cost. Its to proliferate their Windows 8 ecosystem, help increase sales of Windows Phone 8 and also the XBox.

    • FalKirk

      “Xbox was a loss leader for a long time.”-Manish

      The Xbox was a loss leader, but it was never supposed to be. The Xbox went 5 billion dollars in the hole before it started to make money. That was totally unintentional.

      • http://twitter.com/mp2 Manish

        Well, the XBOX hardware was selling at a lower price than it cost MSFT to build one. So, I am saying that MSFT doing that for Surface is likely. (And I would hope it does).
        Yes, the overall business unit might’ve been a loss leader. But I think MSFT tends to take a longer term view on such things, and plan them accordingly. I tend to think that it was part of their strategy.

        • benbajarin

          Again because of the utter demise of the Windows ecosystem that move would cause I find it hard that MSFT miss that in the long term thinking.

          Also MSFT did not sell the Zune at a loss, a market that arguably they wanted as bad as the do tablets, which was also at the time being led by Apple.

          So if we are using correct comparisons based on competition the Zune example would take precedent over the XBOX one.

    • DTatum

      Microsoft also understands that the key to success in this mark will come from 3rd party support and app developers. It would be a wise decision for them to saturate the market with a device they know people will buy into. This isn’t a Google pad with an unfamiliar interface, this is Windows (with a slightly new interface… but not everyone knows that yet)…

      As a software developer, I’ve seen that their main agenda w/ Win 8 has been to push towards Win8RT as a development platform. Flooding the market with devices that only run Win8RT apps with absolutely have an impact on everyone’s development strategies for the next few years! This is why I would not at all be supported if they low balled the price for their RT tablets in the short term, to create long term interest and support.

  • http://twitter.com/pk22901 Peter Kropf

    Ben,

    About taking serious losses. You’re forgetting the Xbox. They’re only now, many years after launch, approaching break even on the whole project.

    • benbajarin

      Different markets, and different attached services. I don’t believe they can be used to compare. Also the loss was incremental over time and tied to a service to make up any lost costs.

      Also XBOX did not require hardware partners to survive as Windows does. Completely different scenarios.

  • Just saying

    Hm. The thing is, it won’t kill off their partners. Windows RT is a whole different beast than Windows 8 and OEMs can still make Windows 8 laptops just like they have been with Win7 and people will still buy them because they will realize WinRT can’t do everything.

    Considering the only way to get software onto the WinRT platform is thru the Microsoft store, of which Microsoft gets 30% of all sales from, it’s very reasonable for them to sell them at a loss (and as a reminder, the BOM for the Xbox 360 at launch was over $800, when it sold starting at $300) because this is not a PC, but a tablet, no matter what M$ marketing says.

    I, for one, hope it comes out for $200.

  • Jurassic

    “I spoke with my contacts in Taipei and they pointed out that the bill of material cost of the Surface is at least $250 and could be as high as $300 depending on the configuration.”

    Tim, don’t forget that the total cost of a product is much more than just the cost of materials.

    Once you add the costs of assembly, packaging, advertising & publicity, and distributing and delivery, that $250 – $300 cost per tablet would be considerably higher.

  • http://twitter.com/chriscooke327 Chris

    Like many others have speculated the $199 Surface may be tied to a subscription model like they recently started with the $99 Xbox + $15 a month for 2 year sub of Xbox Live.

    I am expecting (and hoping) for a price in the $500 range for the Surface RT.

  • victor

    Great article. However: “The only companies that can afford to sell hardware under cost are Amazon and Google.” This is quite often repeated, but is it really that simple? Looking at Amazon’s – how to put it – not so stellar profits, I am wondering if this is sustainable long term strategy. And, to be honest, I still don’t know what to think about this Kindle Fire thing and Amazon’s long term commitment. Basically, it was one hit wonder for U.S. Christmas season, then sales according to many estimates disappeared.

    And Google? Well, I don’t know what to think about this Nexus tablet thing:) Limited international availability means that they are not in serious business of competing with iPad, or in business of selling tens of millions of these devices. They will have some success with it, but why I feel that this is more “Look what we can do” than anything else? And I don’t buy this story about recovering costs with search ads and Google Play. I mean, Apple ecosystem (iTunes & co) is bigger (in terms of revenues) compared to Google Play and still nobody is suggesting Apple to sell iPad under costs and to earn money from App Store, iTunes and iBooks.

  • http://www.facebook.com/donald.m.kraig Donald Michael Kraig

    While I agree that it is highly unlikely that Microsoft will release the Surface for $199, it’s not impossible. The XBox was released and lost $125 per unit sold AND had a 50%+ failure rate, costing them more money for each unit. In the three months ending March 31 of this year, they lost $229 million on the XBox division. They’ve lost billions on the XBox as the become a leader in that market. With Windows as THE major money maker for Microsoft, it is certainly not impossible that they would be willing to sell the RT for an even bigger loss per unit: they estimate they will only sell a million of them this year. To repeat, I agree it’s unlikely they will sell the Surface for $199, but not only is it possible, it’s in their history.

    • steve_wildstrom

      The Xbox had a model from the beginning for recouping those losses–game licensing fees and direct revenue from Microsoft Game Studios. True, it took a number of years for this to pay off. But I can’t see a similar model for Surface even in the long run.

  • Luke Warm

    On what plane of reality can MS not afford to take a loss? MS can absolutely attach subscription payments as well via some kind of content service lock-up. MS is in scorched Earth mode, they know they have to attack hard and fast. MS are old hands at taking losses to gain market, how can you forget the XBOX?

  • Victor Hartmann

    XBox has been brought up many times in many articles so I thought I’d point out that what made the XBox successful was not the hardware. Really, with the RROD, they persevered in spite of the hardware. The main driver for XBox is the Halo and similar exclusive titles. So that’s my whole question for Windows tablets in general. What is the killer software? Many have been hard on the OEMs for failing to advance the market but the problem really wasn’t the hardware. Anyone can get the hardware built. The key is the killer software that makes the device desirable.

    I would expect that Microsoft expects Office to be the main driver of sales. Which it may yet prove to be. The catch there is that Office is already available on super cheap netbooks, powerful laptops, and all the way up to desktops with massive multiple displays. Covering pretty much every need and price point. Halo was exclusive to the XBox. So what is the “halo” for Windows Surface, either edition? Maybe it will be a tablet version of the Halo story line . . .

  • Oliver Crete

    I understand this is all just a rumour. However, I do think it is plausible. If the Surface RT was sold for $199, just imagine the insane sales it would have. I’d make sure everyone I knew had one, assuming they’re relatively good – which they definitely seem to be in my opinion. Then Microsoft has this huge market all of a sudden. Developers are stumbling over each other to get their apps onto a small app store with an enormous market. Through developer licensing and the 30% revenue they’ll make heaps. Now that the Windows 8 Market has flourished, other manufacturers such as HP, Dell, Asus, Samsung, etc. can release their tablets and a large and established app store will not be the thing that brings them down. Microsoft can then make another truckload from all the Windows 8 licenses. They will make money in the end (hopefully), so I think they should definitely sell for $199.

    • steve_wildstrom

      It’s worth noting that 30% is not an extravagant gross margin by retailing standards. Even amazon, which as mentioned has thing profits, had a 26% gross marking in its latest quarter. Also, Apple’s content and software sales provided less than 10% of the company’s total revenues last year (Apple does not break out profits for this segment.)

      • Oliver Crete

        I understand your point. I was just trying to say (but I know I didn’t make it clear earlier) that they can make their money back on the losses of selling the Surface RT for $199. However, I no longer believe they are going to do this. Would have been awesome though…

  • jfutral

    Looks like $300-500 range for RT tabs:

    http://www.bloomberg.com/news/2012-08-16/lenovo-s-says-rt-tablets-up-to-300-cheaper-than-win-8.html

    If people were going off of real rumours (is there such a thing?) they may have mistook the $200-300 _less than W8 tabs_ for RT msrp $200-300. (I am trying to give them the benefit of the doubt here.) Maybe not a made up figure as much as a misunderstood figure.

    Still, $300-500 is a fairly aggressive pricing for new models right out of the gate, depending on features, if this is to be believed. I have doubts about the success of the W8 tabs. Do you think a significant market will pay a premium for Wintel compatibility? Or might it go the other way, compatibility will out weigh RT “consumer” branding?

    I think this dual route for a similar product line just dilutes their move. MS will end up competing more with themselves than Apple OR Google. Too much hedging of the bet. Probably about as successful as the whole Windows Home/Windows Pro strategy. They should have just poured all their resources into RT or W8 compatibility, not both. But I could be wrong.

    Joe

  • Yacko

    Strikes me that MS profit is not the problem. If it is indeed at $200, it would be a hit and the MS tablet partners with the extra OS cost overhead would all be seething with their own more expensive devices. It’s one thing to have a rival device; it’s another thing to price everybody using the ARM edition of Windows out of the market. Mutiny, anyone?