Eating apples without asking what they were was a bad move for Adam. How about investing in Apple without knowing how it makes its money may prove dangerous as well.
This summer I listened to The One Device, Brian Merchant’s history of the iPhone. The idea of a smart phone wasn’t new. Research In Motion began selling its BlackBerry phone in 2002. Nokia was around, and in Japan commuters were looking at retailer’s cellphone-oriented sites in the early 2000s. Apple itself launched a smart phone in a joint venture with Motorola, which flopped. Apple’s iPhone didn’t come out until Summer 2007, and initial sales were slow. So what made a difference?
…you don’t swat at gnats…
In Merchant’s telling two things stood out. One was a fanatical attention to the user. Sleek design, sure, and cool icons for the initial limited functionality. More central was that Steve Jobs wanted his phone to be intuitive in operation, so much so that it could ship without a user manual. The one key in-house technology Apple developed was coordinating swipes with what was on the screen. Even parts of that were purchased from the outside, but it really was novel and required a lot of development of the concept and how to implement it.
It’s not that everything else was easy, or open source. Apple worked on power management, realizing it needed a more efficient yet reasonably powerful processor chip. Toward that end it used a RISC processor, working on a design from ARM and finding a semiconductor “fab” willing to make it. Fitting everything into the sleek case, pulling in the camera stabilization hardware developed by a Japanese firm, on and on. It was really neat engineering.
The second key was the App Store, which was not part of the company’s vision. Apple sought to keep its operating system closed, in part because of real fears about bugs crashing the phone if people could start modifying an as-yet new and complex software system. Almost immediately, though, hackers found ways into the system, and added functionality that Apple did not – or refused – to provide. That differentiated it from the Canadian maker of BlackBerry, which targeted big banks and other business customers with a phone where emails were encrypted and where users couldn’t download games or otherwise undermine its value as a secure email platform.
Ten years later, where are the entry barriers? As I see it, there are none. Apple engaged in a $1 billion-plus lawsuit with Samsung over design issues, which generated $10s of millions in lawyer fees, if not more. That’s the sort of bullying tactic that works with small firms, but in the end style is hard to defend. Operating systems? Android is freely available, as in free. Hardware? Suppliers designed the guts of chips, not Apple, and once the initial version is past exclusive use contracts, they can sell to whomever. The guts of the phone don’t stay proprietary; a lot is simply the time to market required for a rival to launch comparable features, hence Apple’s obsession with secrecy. Oh, and Google has an app store for products that use its operating system (as does Microsoft).
…cash cows eventually stop giving milk…
So as I see it there are no entry barriers. Indeed, in China, India, Southeast Asia and Africa neither Apple nor (to my knowledge) Samsung are major players. [Transsion is the biggest player in Africa, assembling its phones in Ethiopia.] On a global basis, Apple is losing market share in the overall cell phone market, which still includes a lot of flip phones. (The latest reports give them 15.6% of the smart phone market in 2018Q1, about where they were in 2010Q1.) Anyway, those markets are far bigger than those of the US and Europe and Japan – China alone has over a billion smart phone users. [Go to Statista for data on OS shares.]
But if there are no entry barriers, profits must fall. A lot. So how can we justify a market cap of $1 trillion? Or are we simply in the waning days of a bubble driven by years of 0% interest rates? Or am I missing a wide moat that will keep rivals at bay for years to come?
Alternatively, what does Apple’s demand curve look like? Is it shifting, and if so in which direction?
With each release the iPhone has increased in size, now approaching that of an iPad. You can make phone calls on an iPad – it has cell phone hardware. The price point is lower. At what point do you get a small, inexpensive iPad over a large, very expensive iPhone? Or do you move away from Apple altogether, to a phone that fits in your pocket and a device that comes pre-loaded with Office?