Windows Phone 7 Versus Smartphone Heavyweights, Better Late Than Never (MSFT, AAPL, RIMM, GOOG, HPQ, T)

There doesn’t seem to be too much excitement among the technorati for the new Windows Phone 7 operating system from Microsoft Corp. (NASDAQ:MSFT). The comments generally replay the “too little, too late” theme, while pointing out that the new OS is actually rather nice.  But Microsoft starts (again) from a big hole. The iPhone from Apple Inc. (NASDAQ:AAPL) is the designated technology innovater and design leader. The Blackberry from Research in Motion Ltd. (NASDAQ:RIMM) is the OS market share leader with Android from Google Inc. (NASDAQ:GOOG) nipping at its heels. Only Nokia Corp. (NYSE:NOK) and Hewlett-Packard Co. (NYSE:HPQ) seem to lag Microsoft in the smartphone OS wars, and even they don’t lag by much.

Microsoft’s CEO was spectacularly wrong about the appeal of the iPhone, which he dismissed as having potential to gain only 2% or 3% of the market. Now he finds himself in the position he once predicted for his old rival, and Microsoft needs to do something spectacularly right.

The company’s plan includes a licensing fee for the OS plus revenue from advertising and search. Like Google, Microsoft won’t get into the hardware side of the business. And for now, that’s where the money is.

Apple’s gross margins on its iPhones are around 50%, and operating margins are about 30%, according to Canaccord Genuity.  Apple’s large subsidy from AT&T (NYSE:T) also contributes mightily to Apple’s margins.

In the first half of 2010, Apple sold about 17 million iPhones but took home about 39% of the industry’s profits. That’s about 2.5% of the mobile phone market, but nearly 40% of its profit.

That imbalance will continue for a while, until mobile advertising really takes off. Apple’s iAds platform gives it a foothold in the mobile ad game, but the company is going to have to loosen up its restrictions on advertisers if it really wants to bust the ad market.

Google, which offers manufacturers a cut of the ad revenue from its AdMob platform, not only threatens Apple’s margins, but could really keep Microsoft from gaining a lot of traction because it gives Android away for free.

Microsoft’s single largest advantage is its integration with the company’s own Xbox Live. That means, of course, making a bigger push into the consumer market than into the business market, where Microsoft’s Office Mobile productivity software is a big profit maker.

Microsoft is also encouraging development of apps for the new OS, but that could be a tough sell. None of the apps written for previous versions of Microsoft’s mobile operating systems will work, so they’ll all have to be re-written. What are the chances of that, with so little market share on offer for the developers?

About all that’s left to say is that Microsoft does appear to have finally built a beachhead in the mobile OS wars. Whether the company can advance off the beach remains to be seen.

Paul Ausick