Wednesday, July 25, 2012

Wither Apple?

Where is Apple going, in the long run?

Earnings reports for Apple are out today, and they are disappointing.  While interest in the iPad remains high, sales of iPhone are down.   Analysts who are bullish on Apple say this is because a "new" iPhone is due out soon, and the Apple faithful are waiting for the new phone to come out, before buying.

This might be true.  Or something else might be at work.

(Note that even these "disappointing" earnings still show stellar profits and profit margins for Apple, as well as sales increases from over a year ago.   But what is troubling to some analyst, I suspect is that profit margins are leveling off and sales rates are declining.   This is to be expected, I think, as the market for the iPhone and iPad products matures and saturation occurs.  To expect unlimited increased growth, on the other hand, would be idiotic).

As I noted in some previous posts about Apple and Why I am Bearish on Apple,  the company has a long history of coming up with trendy products which are wildly popular with a niche of users, and then just as quickly fade away - or fail to gain a mainstream following.  Third-party products, often at half the cost, end up taking most of the market share.   It may be trendy to show off your MacBook, but a basic Toshiba laptop can cost 1/5th to 1/10th as much.  That's a helluva price delta.

Again, the "closed box" model of Apple, where the device is literally sealed at the factory, prevents it from being modified by third parties or many accessories or add-ons offered for it.  It limits your service options, as well as repair options to authorized Apple dealers or factory service, and insures that there is one source only for parts and software.

As a result, Apple can command premium prices for its devices - which often are made very inexpensively in China.   A simple iPhone or iPad can cost hundreds and hundreds of dollars - but cost less than a hundred dollars to make.   When you are introducing a new product, without competition, you can get away with this - for a while.  But eventually, competitors smell blood in the water and start to offer products that are priced a lot less - and often these products end up taking over the market.

The iPhone is a case in point.  While it seems that "everyone" has an iPhone, the reality is, as I have noted before, that Apple has about half the market share of the smart phone market than Android does.  The Droid phones are open source - you can buy the phone from any number of companies, but the O/S is from Google. 

This is sort of a parallel to the model used by Microsoft, where they concentrated on maintaining a monopoly on the O/S while letting others kill each other trying to make the hardware for less.  And it is a model that worked - for Microsoft - and is working for Google.  Not only do Droid phones have twice the market share of iPhones, they are growing at twice the rate.

So to me, the analysts' argument that "people are waiting for the next model to come out" may be specious.  Growth in the smart phone market eventually will reach saturation levels, as everyone who wants one, gets one.  And getting a "new" phone every year or so, just because it has a few more features or a differently sized docking plug really doesn't make economic sense.

Yes, there are a few shallow people out there who think having the "latest and greatest" piece of electronic jewelry is worth spending a lot of money on.  But they want this to show off, not necessarily to actually do anything constructive with it.  And wandering around in a daze, staring at your iPhone all day long (which seems to be what people do with them) eventually will wear off.   Hula-Hoops, Tail Fins, Disco - all fads have a peak and then a valley.

It was only a few years ago that "everyone" was yakking on the cell phone - usually about nothing.   Then, they were all texting.  That fad seems to be peaking.  Today, everyone is running "apps" and surfing the web on a smart phone.   Do you think this is sustainable as well?

This is not to say that these activities are entirely pointless - only that their fad-like natures will attenuate over time.  Yes, talking on a cell phone can be useful.  But compulsively yakking on it, is not.  Similarly, you can communicate with a text message - but spending your whole day doing it is pointless.  And I think a similar thing will happen to the smart phone.  The novelty wears off, on anything, over time.

And once everyone has a smart phone, will they really "trade up" every three years like the automakers wanted you to do with cars?   Maybe.  Maybe not.  I think the latter - given the costs involved.

The iPad is doing well, and again, this is a product category that will be here for the long haul.  But, I don't see the $800 iPad as a long-term contender.    Other versions of these pad-devices will hit the market for far less than half that price, and many folks will latch onto those, simply because of the cost differential.   Like the iPhone before it, it will show a huge market gain, followed by competitors taking over the space.

There really is no reason an iPad should cost that much money, when a full-blown computer, or even a laptop, can cost as little as $400 - or less.

In a way, it is like the Segway Scooter.  A cool invention, yes.  Neat technical features?  You bet!  Worth spending more than the cost of a new car?  Not really.  Not if you have any common sense, that is.

And like with the iPad, what really killed off the Segway Scooter were cheaper three or four-wheeled generic scooters that people could buy for only a few hundred dollars.   They dominate the market, while Segway is limited to a narrow niche.

Again, Apple is not going bankrupt or anything.  I love it when people get extremist like that - Apple stock has to hit $1000 a share or go bankrupt - nothing in-between, now!   People are idiots.

No, Apple will make money - and is making money - but over time, its profit margins will be eroded by competition from cheaper pads and smart phones, which will cut into its market share significantly.  Apple will have to lower prices to compete - as it already did with it's iPhones (remember THAT?).   The growth in the pad market is not in the "bleeding edge" early adopters who don't mind tossing away hundreds of dollars for the latest-and-greatest, but in the secondary market - people like you and me who might bite on something at the magical price of $99 or $199, but not $799.

Which means the share price will slowly deflate over time, to keep in line with its earnings.

The idea that Apple can keep "coming up with new must-have products" again and again seems to me to be an unworkable marketing model.   After the iPad, what's next?

The vaunted Apple TV has been bandied about for years, but has yet to hit the stores.  And I suspect a lot of people will balk at paying a premium for a proprietary television that is locked into one service provider.   The trailer-park set loves their jumbo flat-screen televisions, but they buy then in bulk, at the local discount store.    Televisions are an established market with an established pricing structure.  You can buy a 42" flat panel television for about $500 to $700 on a good day.   Is someone going to pay $1500 for an Apple version?  I am not so sure.

Again, if we had a time machine we could have gone back in time about ten years ago and bought Apple at $100 a share and quintupled our money since then.  But back then, Apple's P/E ratio was in the tank, and anyone looking at that stock would not have said, "Gee, I think I'll buy this because the stock will shoot up in ten years when they invent something called an iPhone and an iPad".

It is hard to predict the future.   And in that regard,  I could be all wrong about Apple stock.  But I doubt it.  When you come out with a startling new product, it is easy to garner market share (of course, the product is not necessarily all that startling, given the number of prior Smart phones and PDAs over the years, including Apple's own Newton).  Keeping such a market to yourself is damn near impossible - as is continually coming out with startling new "must have" products.

I think Apple will calm down in the coming months and even years, as the smart phone and pad markets mature over time.

UPDATE:  This article pretty much sums it up:

Mobile users upgrading to smartphones at record rates, and choosing Android

New numbers from ComScore show that users of feature phones are upgrading to smartphones at record rates, and are overwhelmingly choosing Android for their new platform.

In April, 2011, just over 60 percent of feature phone users chose to stay with a feature phone when they got a new one. In April of this year, that number is down to 50 percent; meanwhile, the proportion of users choosing to upgrade to smartphones has gone from 38% percent to 47.5 percent in the same period. It's the tipping point for smartphone adoption: it's very likely that within a few months, smartphone upgraders will outnumber feature phone keepers.

Android is the platform of choice for these new users, according to ComScore's numbers: 61.5 percent of new smartphone users in April chose Android, while a significant but still much smaller 25.2 percent picked up an iPhone. Meanwhile, 7.1 percent went with Microsoft and just 4.8 percent with BlackBerry.

What does this say about Apple's prospects for the long-term?  And by the way, this disparity between Android and iPhone is increasing.  The last time I reported on this, it was like 50/30, now it is 61/25.  Ouch!