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Despite a huge IPO, Xiaomi will have a hard time selling phones in the US

  • Xiaomi is about to make a big splash with a huge IPO.
  • It might be an unfamiliar name to U.S. consumers, but it's one of the world's largest phone makers.
  • Xiaomi might have trouble entering the U.S., however.
Lei Jun, chairman and CEO of China's Xiaomi
ChinaFotoPress | Getty Images
Lei Jun, chairman and CEO of China's Xiaomi

One of the world's largest phone brands is preparing for one of the largest IPOs in years — but it may find it very difficult to sell its products in the U.S.

You might not have heard of the Chinese company Xiaomi, which filed for an initial public offering in Hong Kong on Thursday, but it's huge globally.

It's the fourth-largest seller of smartphones in the world, according to Gartner, behind Samsung, Apple and Huawei. Its IPO could raise $10 billion, potentially valuing the company at $100 billion and making it one of the largest IPOs since Alibaba.

It hopes to enter the U.S. one day, according to comments made to CNBC. Here's why that won't be easy.

The US phone market is saturated

Gartner said in February that global smartphone sales fell by 5.6 percent during the fourth quarter of 2017, showing that people aren't buying or upgrading phones as quickly as they once did. It's the first time the market has declined since 2004, according to Gartner.

The United States is one of the most mature smartphone markets, so major players are looking elsewhere, such as Asia-Pacific and Latin America for growth. On the other hand, consumers in the U.S. might crave a device that isn't from Samsung or Apple, the leaders in the U.S. market. There's at least some room for competition — especially if Xiaomi can offer what feels like a premium phone for less than its competitors — but the company has other obstacles to face first.

US intelligence agencies are skeptical of Chinese smartphone brands

U.S. intelligence agencies have warned consumers against buying brands from Chinese smartphone makers — including Huawei and ZTE — and retailers such as Best Buy have started to pull Huawei phones from store shelves.

CNBC asked the FBI, CIA and NSA if Xiaomi might face similar scrutiny. The agencies declined to comment, and instead pointed to comments made during the annual threat assessment hearing on Feb. 13 before the Senate Select Committee on Intelligence.

"We're deeply concerned about the risks of allowing any company or entity that is beholden to foreign governments that don't share our values to gain positions of power inside our telecommunications networks," FBI Director Chris Wray said.

It's impossible to tell right now if Xiaomi would fare better than Huawei and ZTE. Lenovo, which owns Motorola Mobility, is one Chinese brand that hasn't — publicly, anyway — faced similar government criticism.

There's a looming trade war with China

The U.S. is facing a possible trade war with China that would almost certainly increase the price of electronics, including phones, imported into the U.S.

"There could be some issues given the trade war, but if the administration is smart, they won't block [Xiaomi] as to show that Chinese smartphone vendors are welcome if they don't pose a security risk," Patrick Moorhead, president and founder of Moor Insights & Strategy, told CNBC.

But the company might be able to compete in the U.S. even with tariffs.

"Xiaomi has wafer thin margins in all its markets," said Peter Richardson, director at Counterpoint Research. "The Xiaomi chairman and CEO, Lei Jun, has committed publicly to never taking more than a 5 percent net margin after tax on its hardware products. Even with a bump in price caused by tariffs it would likely still have the best price relative to the smartphone's specification."

It's extremely hard to establish carrier partnerships

It's extremely hard for new smartphone brands to establish partnerships with U.S. carriers —including AT&T, Verizon, Sprint and T-Mobile.

It's why Lenovo acquired Motorola Mobility from Google in 2014. In that deal, Lenovo specifically called out Motorola's "great carrier partnerships" and "strong presence in the U.S." as two reasons for the acquisition.

Other phone makers such as One Plus, Huawei and Blu have turned to outlets such as Amazon to sell smartphones. Even new devices from well-known people in the space, such as the Essential phone from the father of Android, Andy Rubin, was only picked up by Sprint.

"The U.S. market for handsets is strongly controlled by the carriers," Richardson said. "To obtain distribution with carriers it's necessary to get carrier approval through a stringent and costly testing process. Xiaomi will need to invest in this. If it chooses to only go after the open market, its market opportunity would be severely curtailed. If successful in getting through carrier-testing and then getting ranged, it will have to master the art of supporting the carriers' way of going to market. This is very different than the process Xiaomi has used so far, although it is adapting quite quickly to varying market conditions as it expands internationally."

Moorhead thinks Xiaomi might be able to pull off those relationships, however. "Given Xiaomi uses Qualcomm chipsets and doesn't sell carrier equipment, I'm not foreseeing as large of issues with carriers," he said.

Branding

Finally, Xiaomi isn't well-known in the United States. While it has made a name selling good phones at low prices in other markets, consumers in the U.S. don't know that yet.

"Xiaomi is a well-known brand in China and has a strong presence in several other markets in Asia, such as India," Richardson said. "However it's a brand that is largely unknown in the U.S., so will require a considerable effort in terms of marketing to grow awareness and comfort."

Moorhead echoed those concerns. "The company's biggest challenge could be branding — it will be hard for some to pronounce its name," he said.