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Christmas 2012 Is Ground Zero for the Tablet Wars

This week, Microsoft (NASDAQ:MSFT) suppliers in Asia hinted at an initial production run of 3 million to 5 million units of the company’s new Surface tablet computer in the fourth quarter.

Quite a coincidence that this is the same target some have put on the initial batch of Kindle Fire HD tablets Amazon (NASDAQ:AMZN) is making now, and also the same run of Nexus 7 devices from Google (NASDAQ:GOOG). Then there’s rumors of an iPad Mini from Apple (NASDAQ:AAPL) that could have an initial production of 10 million units.

It’s going to be an interesting holiday shopping season if all these reports hold true — because it appears none of these tech heavyweights is backing down on marketing, pricing or production.

Welcome to the tablet wars, just in time for Christmas.

It’s easy to see why. According to research group IDC, some 117 million tablet computers will be sold in 2012 worldwide and another 165 million will be purchased in 2013. That’s up from 107 million forecast previously for 2012 and 143 million for 2013.

That portends continued success for Apple and Amazon as the frontrunners. And just a small piece of that pie is going to be very lucrative for Google and Microsoft if they can break into the tablet market.

What Tablets Mean to Google: Finally, a Hardware Foothold

More importantly than just the bottom line, the Google Nexus tab is the company’s chance to finally get a strong footing in mobile hardware.

Google tried (and failed) to break into the smartphone space a few years ago with a Nexus handset, produced in partnership with Samsung. Its recent efforts have been better, but Apple’s dominance hasn’t faded.

The Nexus 7 tablet, produced in partnership with Asus, could change all that — reportedly outselling all other previous Android-powered tablets in just three months. That includes the fairly well-received Samsung Galaxy Tab, previously the leading tablet powered by Google’s Android OS.

Android remains open source, and for the time being Google is content to ink deals with other hardware companies. But longer-term, you can bet it’s eying the big margins Apple gets from soup-to-nuts design of its iPad and iPhone — especially since it has rolled in Motorola Mobility after a 2011 merger worth $12.5 billion.

What Tablets Mean to Microsoft: A Post-PC Evolution

Microsoft has long been the king of desktop software, with various incarnations of its Windows OS dominating the desktop landscape. But with the post-PC age upon us, those numbers might not be as impressive as they once were.

The current Windows Phone OS is on a mere 1% of devices, and a paltry 1% of users surf the web using a mobile version of IE as a result. If you want to be charitable, you could roll in another 2% of devices running Nokia (NYSE:NOK) Symbian — since MSFT and NOK partnered up on mobile software going forward — but that isn’t much more inspiring.

In short, Windows’ back is against the wall. But while many critics have panned the Microsoft smartphone strategy — here’s a great take from Ars Technica — tablets aren’t that much of a stretch. Especially when you consider all of tablets’ business and enterprise applications — a segment Microsoft has always done well with, though it admittedly has failed to upgrade its old software. After all, 41% of desktops are still running an 11-year-old operating system in Windows XP!

A business-friendly tablet could do wonders for Microsoft, both in tapping into the higher margins of hardware and by giving Windows a new purpose in a mobile age.

What Tablets Mean to Amazon: Content

Amazon and its Kindle redefined the publishing landscape, and in many ways the first incarnation of the device laid the groundwork for the Apple iPad. Since the Kindle Fire first debuted in late 2011, it has dominated the low end of the tablet market. Now you can get the year-old version for just $159, and the new Kindle Fire HD starts at just $199.

But strangely enough, despite this first-mover status, Amazon never has made money on its revolutionary products. Amazon is selling its Kindles at cost simply to get a foothold in the content space. In fact, AMZN barely turned a profit last quarter and could post a small loss in its next earnings report as it eats production costs simply to get Kindles in the hands of consumers.

Why? Simple: Because once users have a Kindle, they will buy books, movies and more from Amazon’s marketplace, and that is where the company will make its money.

It’s an interesting strategy, and one that investors appear to be going along with … for now. If sales remain brisk in the short-term, Amazon won’t have to worry about enticing consumers to upgrade annually to refresh its revenue stream; it will have content to sell those Kindle owners, and that’s great news. However, the tablet landscape is not yet fully formed, so it’s crucial that Amazon remain relevant and catch on with a broad base of consumers for its business model to work. (Read more in my post about the content war between Apple and Amazon.)

What Tablets Mean to Apple: Beyond the iPhone

I personally own Apple stock, and I’m reasonably enthusiastic about the iPhone 5 launch and the upcoming earnings report. However, I am seriously looking around the corner — the iPhone’s mega-growth and fantastic margins cannot last forever, so the future of Apple stock depends on what comes next.

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Consider that about two-thirds of Apple’s profits come from the iPhone. Similarly, CNET reported a few months ago that iPad margins are nearly half what they are for iPhones. It doesn’t take a rocket scientist to figure out that if the iPhone can’t keep its breakneck growth, profits and margins are going to lose momentum in a hurry.

That’s where the dominance of the iPad comes in. If Apple can maintain its dominance of the tablet market — an incredible 70% — then it has a way to replace the iPhone growth story, even if it can’t replace the margins.

That’s why Apple is unveiling, by most accounts, a mini-iPad this month in an effort to corner both the high and low ends of the market.

I’m interested to see how Apple evolves beyond its iPhone in the next few years as the device hits critical mass. Yes, there’s potential in China where Apple holds a meager 7% market share … but the margins might not be there. Yes, U.S. consumers still love the Apple brand and reviewers gush over the “miracle” of the iPhone. But Apple is too smart to rest on its laurels and expect the iPhone to last forever.

Dominance of the iPad must persist for Apple’s dominance to persist.

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Jeff Reeves is the editor of and the author of “The Frugal Investor’s Guide to Finding Great Stocks.” Write him at or follow him on Twitter via @JeffReevesIP. As of this writing, he owned a position in AAPL but no other stocks named here.

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