Apple Business Strategy 2012

by Christopher Meyer on 02/19/2012

A firms business strategy reflects its leaders. Under Steve Jobs, Apple differentiated itself
through elegantly simple design. This piece explores Apples business strategy in the first full
year of Tim Cooks leadership.

Already, we can see Tim Cook is changing Apple. In contrast to Jobs rare appearance before the
press and analysts, Cook took the opportunity to discuss Apples business strategy at the recent
Goldman Sachs Technology Conference. When questioned about the future of the iPhone,
Apples largest revenue stream, Cook underscored that smartphones only represent 9% of the
global handset market and even within smartphones, 3 out of 4 customers bought something
other than Apple.

Apple manufacturing partners and practices have also come into the spotlight following the
unprecedented disclosure of their supply chain partner audit combined with the hiring of a third
party employment practices review agency. Most recently, Apple invited ABC Nightline into
their primary supplier Foxconn. In increasing increments, Cook is making Apple more
accessible.

In the past, his operational expertise has been a perfect counter to Jobs legendary product
instincts and will serve Apple this year. What we wont learn in 2012 is whether Cook can plant
the seeds for a new platform in the years beyond. Its a no-brainer to assume Apple Labs is
cooking away. There just wont be much evidence in 2012.

What we can expect is that Apple will continue to get paid for the integrated value they deliver.
Apple products initially cost more than most competitors. They win by tightly integrating
hardware and software for a superior user experience. Many would argue Apples integration
provides a lower aggregate cost as well.

Apple 2012

2012 will be dominated by the following four themes, all targeted at cementing users and
developers into Apples lush, walled garden of peerless user experience:

1. Scaling all operations (manufacturing, retail, Internet) to meet global demand

2. Rapid expansion in China and developing economies

3. New product form factor: Apple TV

4. Apples iCash Mountain Problem

1. Scaling: Flawlessly Synchronizing Billions of Transactions

With revenue greater than $46B in the fourth calendar quarter of 2011, any conversation about
Apple strategy has to begin with the challenges of scale. The iPhone and iPad have plenty of
runway left for growth as does Apple retail, but as numbers grow, so do the consequences of the
smallest hiccup.

Meeting demand for hundreds of millions of annual units requires flawless execution across the
supply chain, distribution and with their manufacturing partners. Weve become so accustomed
to high tech products that its easy to forget what a shortage of a single component can do. When
floods struck Thailand last fall, it disrupted disk drive supplies for nearly six months.

Last year, Apple sold 156 million IOS-based devices (iPhone, iPad and iTouch) which is more
than the 122 million Macs sold since its 1984 introduction. In Tim Cooks own words, the
trajectory is off the charts.

Geometric growth plays to Cooks strengths. In fact, if theres a hallmark to Apples business
strategy in 2012, it begins with leveraging his unique competencies.

2. Chinaand other developing countries

Any conversation about scaling quickly turns to Apples China opportunity. Focusing just on
iPhone, Apple currently sells it exclusively through China Unicom (196 million subscribers).
This is slightly less than the combined subscriber base of Verizon Wireless and AT&T. But in a
country of billions, it doesnt compare to China Mobiles 616 million subscribers. Its no surprise
that Cook visited China Mobile this past June.

As important as Apples innovation machine has been for the developed world, 2012 success in
China and emerging economies will be fed by incremental product improvements. They may be
combined with creative cost and/or pricing strategies that subsidize purchasing much like
Verizon and AT&T has for U.S. iPhone customers. With rapidly growing middle classes, one
might consider market access more important in the developing world than ground-breaking
innovation.

And the above doesnt account for iPad or iTouch. Apples Asia Pacific sales (minus Japan)
grew approximately 200% last year and account for 20% of Apples total revenue. Add in an
expanded global retail presence and theres not much that stands in the way of superior revenue
growth in 2012.

3. Next Platform Form Factor: Apple TV

The speculation regarding an Apple next generation television has evolved significantly.
According to Cook, the current Apple TV hockey puck has been a hobby product. Shortly
before his death, Steve Jobs told biographer Walter Isaacson that he had finally figured out TV.
True or false, there are several reasons why flat screen TVs make sense for Apple:
 1. Market size & headroom for premium pricing: The global market for flat screen displays
is over 77 million units and grew 15% last year. Apple needs large markets like this to
move the needle even if they only appeal to the high end of the market.

2. Platform expansion via form factor: Just as the iPad is essentially a larger iPhone, an
Apple flat screen will enlarge the form factor again. It will leverage technologies such as
Siri for a new control interface. Facetime will evolve into home video conferencing,
likely enhanced by motion sensing technology that automatically follows action. As
connection speeds improve, iCloud based recording (currently limited by upload speeds)
and playback (available today) will be incorporated.

3. Apple ecosystem lock-in: Just as Frito-Lay thinks about the share of stomach it captures
with drinks and snack foods, Apple seeks share of screens be it on Mac, iPod, iPhone
or iPad. Just as salty snacks drive you to drink more soda, Apple TV will leverage device
interoperability via iCloud. Apple TV widens the moat that keeps competitors away
while fertilizing the soil in land of Apple.

4. Innovation Bluebird: Borrowing from Donald Rumsfield, the biggest unknowable that we
know today is that Apples legions of independent apps developers will provide
something surprising. The causal gaming phenomena of Angry Birds didnt exist before
mobile apps. TV will offer a new and much larger landscape in which to play.

5. Hardware opportunity: As important as iTunes, mobile advertising and iCloud may be in

Apples future, they currently constitute a thin sliver of overall revenue and profits. For
now, the route to growth remains hardware.

But Apple TV will face challenges. First are the flat screen incumbents. LG, Samsung and Visio
have not been sleeping and will quickly counter Apples moves at lower price points. They will
most likely scale Googles Android interface; perhaps a long shot might be Microsoft. Assuming
Apple pushes Facetime as a family video conferencing play, you can bet that competitors will
counter with a similar feature based on Google Voice or Microsofts Skype and Kinect
technology.

The second and more troublesome foe will be current content producers and distributors. After
watching Apple iTunes disrupt music distribution, pricing and margins, movie and TV studios as
well as cable, satellite and phone companies will be very wary. If you need evidence of their
strength, just look at Neflixs recent struggles (see Netflix at a Crossroad).

Can Apple drive the same disruption through television that they did in mobile phones? Without
question, Apple will make good money but we wont know if its only a good business or a more
serious disruption in 2012.

4. Apples iCash Mountain Problem

Do you recall the mountain of cash Donald Ducks rich uncle Scrooge McDuck possessed? Tim
Cook has a $100B mountain and its rapidly growing. Far beyond whats needed for a rainy day,
Cook cannot continue to ignore it.

Declaring a special dividend to return some to stockholders is simple but hardly strategic.
Technology acquisitions like the 2008 acquisition of P.A. Semi which brought the iPads ARM
processor in-house will continue, but they dont dent the bank.

The current maelstrom of patent lawsuits in the mobile space suggests that Apple will ultimately
use some to settle issues much as Google did with its acquisition of Motorola Mobility.

Similarly some will go to addressing market expansion issues such as the current licensing spat
between Apple and Chinas Proview regarding use of the iPad trade name in China. Or Apple
could follow Amazons Kindle strategy and subsidize hardware pricing to lower entry price.

The problem is none of these strategies drain more cash than is coming in. The obvious next
question is what if Apple pursued a large acquisition? This raises three significant challenges, at
a minimum:

1. Regulatory: As the most valuable company on earth, regulators in all geographies would
scrutinize any deal for monopoly concerns. Its hard to think of a large technology
acquisition that wouldnt cause concern.

2. Cultural fit: Strong cultures exclude rather than include. Add in Apples penchant for
secrecy and try to name an asset of scale that would naturally fit in the Apple world. I
cant.

3. Assimilation capability: Companies such as Cisco that have a track record of acquiring
and assimilating large entities; Apple has never done so. Starting with a big bite would
be challenging.

Having said this, Apple could acquire an infrastructure capability outside of traditional tech that
enriched the breadth of Apples ecosystem. For example, what if Apple acquired a financial
services player? Blend Apples mobility hardware/software, advertising and iTunes to offer an
electronic wallet with Apples legendary ease of use?

Apple could buy a no-name bank and quietly use their existing financial infrastructure to
leverage its 200 million iTunes customers and software expertise into an Apple iWallet. In the
midrange, they could look at Intuit ($17B market capitalization) though that might raise
regulatory flags. Alternatively, they could go big, buy Mastercard ($50B market capitalization).

Stepping outside the technology arena would reduce regulatory monopoly concerns while
leveraging Apples technology, branding and retail expertise. Going big doesnt directly address
the cultural fit and assimilation issues but neither does it require much in the near term.
Mastercard is a well-run, growing firm.
Please take above for what it is: an example to illustrate a strategic choice versus a fully vetted
alternative.

Summary

Apples business strategy 2012 has three elements:

1. Leveraging momentum with scale

2. Expanding the walled garden geography and IOS foundation

3. Investing in new directions: new product platform innovation and cash

If we were playing poker, the first two elements are cards that are face up. The third is not. And
thats the bet were waiting to see.