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Samsung's smartphone momentum takes a hit

analysis A decline in its operating profit and a weak forecast for early in the year call into question whether Samsung can handle the pressure as the smartphone market weakens.

Samsung's Galaxy Note 3 is one of the most popular phablets on the market.
Sarah Tew/CNET
Competition's catching up to Samsung, and it's only going to get worse.

Early Friday Korea-time, the electronics giant reported its first quarterly operating profit decline in two years. Perhaps most troubling was the slowdown in its mobile business, with its fourth-quarter operating profit in IT and mobile communications dropping 18 percent sequentially and shipments falling "slightly." Samsung also warned that the first half of 2014 would remain weak.

Rivals such as HTC and BlackBerry would love to have results even a fraction as strong as Samsung, but the Korean company should be a little concerned. It's facing slower growth in the high end of the smartphone market and fiercer competition from Apple. At the low end, Chinese handset makers such as Huawei and ZTE are eating into its customer base and hurting Samsung's profitability. The average selling price of phones is falling because more people are buying cheaper devices, and Samsung's lofty marketing budget is weighing on its profits.

"This year, looking at the industry environment, we do expect that the industry will become a bit more difficult with growth slowing down and competition becoming more fierce," Hyunjoon Kim, an executive in Samsung's mobile business, said in a transcript of an earnings conference call with analysts.

The conglomerate, meanwhile, said it would ease off its aggressive spending on marketing, pulling back at a time when competition is just getting fiercer.

Samsung, however, has big hopes that a strong second half of the year will help smartphones and tablets post "solid growth" overall for 2014. Still, much of that success could depend on what its rivals do.

First up is Apple. The Cupertino, Calif., company is expected to launch two new iPhones with bigger screens as soon as this summer. While Samsung and Apple have long competed in the high end, Apple hasn't ever sold phablets, those hybrids between smartphones and tablets that Samsung popularized.

Samsung's Note line of phablets has become a promising area for the company. Each new Note smartphone has sold much better than the previous generation, and Samsung has said time and again that its bigger screens are one of the main reasons customers choose it over Apple. It even made that a key argument during its recent patent infringement trial versus Apple. And it said during its fourth-quarter earnings call early Friday that consumers believe a "large smartphone equals Samsung."

"We have created this segment, and we are the leaders of this large smartphone segment," Kim said. He vowed that Samsung would offer "more differentiating" large displays and focus on features such as S Pen and multitasking to strengthen its lead.

If Samsung is right and consumers are choosing it for a bigger screen, there's the risk that customers may take a second look at Apple if it launches an iPhone that goes beyond its current 4-inch display. And no, a smart stylus isn't going to keep Samsung customers loyal.

Samsung also has to worry about China. Most people in mature markets like the US have smartphones, so emerging regions are becoming a key battleground. Samsung is China's biggest smartphone vendor, but rivals such as Lenovo and Huawei are gaining quickly. The latest threat: the iPhone becoming available on China Mobile, the world's largest wireless carrier.

Samsung will have to fight even harder to gain customers in China, and there's always a risk it could end up competing more on price than anything. That could hurt profitability even more.

Of course, Samsung isn't standing still. The company will launch its new Galaxy S5 in March or April, and the device is expected to be a big leap forward from the Galaxy S4. It's also working on other wearable devices and pushing its tablets. Samsung executives said early Friday that they plan to expand their flagship phone line and increase the number of phones that work with Galaxy Gear and other wearables.

Samsung also has a big opportunity to offset some of the weakness in consumer demand by making a bigger push with business users. Android has long been viewed as less secure than BlackBerry and other operating systems, but Samsung's Knox security software has received Department of Defense approval for government use.

In addition, Samsung believes the rise of LTE in China will help its position and boost demand for high-end smartphones. And the company expects the LTE market in the country to grow faster than current estimates.

"Based on our LTE technology competitiveness as well as experience in other LTE markets around the world, also based on our premium brand image that we command in China, Samsung will try to be the leader in the Chinese LTE space as well," Kim said during the company's earnings call.

While Samsung has plenty of opportunities to strengthen its position in mobile, it's also going to face a lot of concerns about maintaining its momentum. After all, there are plenty of examples, such as Nokia and BlackBerry, that show one misstep can be fatal.

Samsung is by no means in the same kind of situation. But that doesn't mean the boom days can't end as quickly as it did for those former mobile giants.