Introduction to Issues Apple Inc is the dominant firm in the digital music player industry and its iTunes

on-line service is a significant supplier of on-line entertainment and information content. Analysis of this case reveals three significant challenges that Apple Inc must face:

(1) How should Apple Inc produce durable and sustainable product enhancement and consumer preferences over competing products in the highly volatile and competitive music player and services market? (2) How can Apple Inc better exploit the explosive growth in the music player and content industry? (3) How can Apple Inc better address the competition from illegitimate music file sources?

Rationale The on-line music player and content industry is competitive and volatile. It is a high risk, high return industry. Technology and innovation both play a vital role in developing products which produce lasting consumer preferences. Apple Inc has strong expertise in developing and marketing a limited range of consumer products with impressive sales growth numbers. However, as the market demonstrates explosive growth (almost 166% in 2005 over 2004), their eroding market share from 92% in 2001 to 62% in 2006 demonstrates they are not fully exploiting the explosive growth in their core product markets.

Apple Incs reputation for innovation is being challenged. Other firms have successfully introduced competitive products, some of which are more advanced and more versatile with

greater sales potential than Apple products, such as Motorolas integrated phone and digital music player. Apple Inc has a loyal customer base with strong brand preference which provides a ready market for Apples new products, but may mask any fundamental weakness in their product line.

Apple Inc is at a significant cost disadvantage in supplying on-line content at $0.99 per song. Illegitimate competitors have a demonstrable cost advantage over iTunes because they avoid royalty fees that legitimate suppliers must pay. Furthermore, legitimate competitors provide more versatile price packages, such as unlimited downloads at a flat fee, which hold greater appeal to heavier users of on-line content providers.

Strategic Recommendations Apple Inc. should pursue a Broad Differentiation strategy for their hardware and devices, with recognition that the music player and content market has become segmented, as demonstrated by the recent success of Apple Incs competitors.

Apple Inc should continue to employ sophisticated market research to explore consumer needs and wants. Continued product research and development must be employed to develop corresponding products with an emphasis on innovations which are not easily duplicated. Such products would appeal to high-end users, repeat customers and early adopters of new products. Specifically, Apple needs to develop multi-function consumer electronic products where iPod players and software are incorporated into devices that can perform multiple tasks. The iPhone obviously shows the way, but Apple Inc has the opportunity to leapfrog the industry by exploring

the potential and application of handheld computing devices with a variety of software and hardware applications customized to meet the wants and needs of a broad range of consumers.

A component of the Broad Differentiation strategy allows Apple Inc to exploit the lower cost consumer product market for the iPod and other devices. As new, more sophisticated products are introduced, Apple Inc should maintain the availability of existing products at a lower cost to appeal to more price-sensitive consumers who still will appreciate the innovation and brand appeal associated with Apple Inc. This strategy would attract new customers who otherwise would not be willing to afford an Apple product. Such consumers would ideally become loyal to the brand and may be willing to upgrade to a premium Apple product in the future. Furthermore, the life cycle of an existing Apple product may be extended, which would amortize the development costs over a longer period of time.

Apple Inc should provide more flexible pricing options to appeal to heavier users of on-line content. Current pricing schedules appeal to the occasional user, but heavier users would find flat-rate or unlimited download packages more attractive. Furthermore, Apple should expand the availability of podcasts and other content which has time-sensitive nature. Such content many be less vulnerable to pirating because it would lose its relevance by the time illegitimate sources would make it available.

Appendix.
Digital Recorded Music Distribution Industry Variables Digital sales are a growing industry, $183 million 2004, to $504 million, 2005. Small, but growing number of new competitors, forward integration, directs sales to consumers. Rapid technological change and innovation is creating new products for consumers and opportunities for competitors. Legitimate new competitors face significant up-front hardware, development, marketing and advertising costs. However, pirate competitors can employ existing distribution channels, software and widely available hardware for a low cost market entry. Very large number of buyers. The final product, music, is undifferentiated, but the music format, and related equipment required to play the music is somewhat differentiated. Buyers need to buy compatible equipment which generates modest switching costs.

Competitive Analysis Summary Intense Rivalry: Some competitors combine hardware and software to foster buyer loyalty and increase switching costs. Pirate distributors enjoy a cost advantage over others, but suffer losses due to spoofing and legal action. Strong Substitute Products: Physical media (CDs) offer recorded music, but are less convenient to purchase and are do not offer the flexibility of single song purchase. Pirate distributors offer low or no cost, but provide a lower quality product. Spoofing and the inconvenience of searching for desired tracks detract from the purchase experience. Strong Potential of New Entrants: Rapid market growth is attracting new entrants. Often they are established firms looking to achieve synergies between their core businesses (such as software development, existing music catalogues and/or hardware) and the music distribution industry. Weak Supplier Bargaining Power: Power depends in part on sales of related hardware and peripherals because purchase convenience and related device features can enhance the music listening experience for buyers. A strong, trusted and recognised brand name creates some appeal for buyers. Strong Buyer Bargaining Power: Music tracks themselves are undifferentiated and are available from many sources with a very low switching cost. It is a luxury purchase that can be deferred entirely at the buyers discretion. Industry Drivers of Change: Rapid market growth due to the decline in the competing retail media sales and the buyer preference for quick, convenient digital music purchases. Technological advancement of convenient, easy to use music players and digital music purchase options. Entry of new competitors, often with formidable financial, technological and marketing resources.

Competitive Position Map, Paid Music Downloads

Group Map for Paid Music Downloads

70% 60% 50% 40% 30% 20% 10% 0% 0 1 2 3 4 5 1 2 3 4

Competitor Apple Yahoo Napster Rhapsody

Market share Price structure 57% 27% 25% 22% $.99 per song N/A

Complementary Hardware Yes No No Yes

$12.50 unlimited $9.95 unlimited

Conclusion: Apple is well positioned, due to flexible pricing structure, market dominance, substantial name brand preference and a dedicated music player. Key Success Factors The development of superior music players and related devices, to enhance the listening experience, including the availability of music players integrated in other mobile devices. The integration of the music purchase and the actual player, so the buyer is encouraged or forced to purchase the music from a particular competitor in order to reap the full benefits of the competitors music player. Competitive and flexible pricing options, such as low costs per track and the availability of packages and volume discounts.

Industry Attractiveness The rapid growth of the digital music industry makes it very attractive to those companies who have the technology, resources and manufacturing expertise to make complementary electronic devices that enhance the music listening experience. Simply offering the songs for download is not enough. The successful competitor is the one who will seek the synergies derived from a integrating a versatile music player and related, flexible, cost-competitive music purchases.

Company Resources: An Internal Assessment Vision: To lead the global market in user-friendly consumer electronic devices and software with continuously innovative and creative products to revolutionise the way people create, market and access entertainment. Mission Statement: To develop and market sophisticated, easy to-use computer, communications and entertainment devices, Objectives: To ensure the continuing success of Apple Incs products and services in the future by diversifying their product range away from an over-reliance on the Macintosh and iPod products. Continuous development of new, innovative products and services will ensure Apples leadership in a competitive, changing marketplace. Market share and consumer feedback and preference will help Apple gauge company performance. Financial Analysis Unit Sales (000s) vs. Product Line (IPod Retail Price: US$399) Product 1999 2000 Line Macintosh iPod iPod market share iPod Rev $ 000s 0 0 0 3000 0 5000 0

2001

2002

2003

2004

2005

3000 0

3000 500 92%

3000 1000 n/a

3000 4500 n/a

4000 8000 62%

$199,500

399,000

1,795,000

3,192,000

Conclusions: Since the release of Apples new product line iPod in 2001 sales increased dramatically from 500 units sold in 2001 to 8000 units sold in 2005. However, sales in PC Macintosh started declining after 2001. This shows that Apple Inc. depends on their iPod sales as a major source of their revenue, yet their market share is declining. Therefore, they are not exploiting the growth of the music player industry to the best of their potential. Value-Chain Operations Activities: R& D investment in producing both hardware and software concurrently Modification of software costs and legal costs incurred when supplier contracts are breached (removal of encryption of fair play protected files) Sale of iTunes is via virtual space, it does not involve the traditional value chain model but the hardware component; iPod does. Distribution value added to apple inc Apple inc provides its own distribution channel for the iPod and employs online distribution channel for

iTunes, expanded download variety from iTunes to podcast, television shows Partnered with HP and Dell to distribute Hardware ( iPod) to gain access to windows user market. Apple inc. gained market share and rose to the top five music seller position in US market music industry in 2006. Sales and Marketing Created value for consumer by integrating price sensitivity and flexibility with iTunes. Marketing costs are high due to the strategy of tapping into unfulfilled market with new innovative products and constant attempt to keep consumer engaged with web forums, new generations and limited addition releases of product line/iPod. Services Administration costs are incurred with support services which integrate marketing techniques to engage clientele, receive feedback and gain new product ideas. Profit Margin Profit margin is 64% Conclusion: A Substantial part of Apple inc. value chain consists of R&D and marketing costs. Apple Inc creates value through the production of user friendly, innovative products and supporting software. It maximizes value of clientele services by creating customer loyalty and with the maintenance of forums with which Apple Inc accesses new product ideas, data for market research. Apple creates value by engaging in product differentiation within product category and introducing limited edition iPods and new generation iPods with refinements.

Apples Key Success Factor Strength Rating (Scale: 1 = Very weak; 10 = Very strong) Key Success Factor/ Strength Measures Hardware Quality Brand image Pricing options Design Expertise Product performance Distribution capability Product Innovation Financial Resources Relative Cost position Customer Service Total Apple Yahoo Napster Rhapsody

10 10 5 9 9 5 10 10 8 10 86

N/A 7 7 7 7 8 7 10 10 8 71

8 6 8 7 7 8 6 8 10 8 76

7 7 9 7 8 8 7 7 8 8 76

SWOT Analysis
Strength: Industry and consumer recognition as a visionary company with high-end innovative products. Market leader in digital musical devices, with a current market share of 62%. Market leader in paid digital music downloads, with a current market share of 57%. Demonstrable industry expertise, over a billion songs downloaded on iTunes. Customization capability of iTunes over physical CDs, consumers can purchase individual songs they prefer, instead of purchasing an entire album. Low variable cost for song delivery of iTunes. Strong product innovation through regular iPod product upgrades and new product introductions, such as the iPhone. Extremely loyal customer base and a high customer retention rate. Most loyal Apple customers view Apple as a lifestyle. Iconic corporate culture epitomized by Steve Jobs Opportunities: Music industry focus of sales shifts from the traditional physical music market to convenient, cost efficient and instant delivery digital music downloads market. Digital downloads market is a booming market with 165.97% increase in sales from 2004-2005. New technological innovation and strategically alliances, the soon to be released iPhone and the already released Motorola ROKR opens up new opportunity for iTunes, with mobile downloads. Introduction of podcasting, a combination of iPod and broadcasting (video/audio), and possible revenue from paid subscription of certain podcasts. Changing of Apples name from Apple Computer, Inc. to Apple Inc. marks Apples expansion beyond personal computer and digital music, opens up new opportunities for Apple in the future. Weakness: High product unit price, no low-cost, entrylevel product options. High production cost, apple claims to produce most components of their product on their own. High customer loyalty drives high expectations of Apple product performance and innovation. Apple Incs reputation may be impacted by mediocre products. High fix cost of maintaining the iTunes service. Irrational overconfidence in Steve Jobs from industry and consumer.

Threats: Increasing competition in the digital device market reduced Apples market share from 92% to 62% over six years. Increasing competition in the digital music downloads market, with new competitors such as Rhapsody and Napster-to-go, operating in new business models and charging much less prices than iTunes. Pirate and illegal competitors hold a large market share of the music industry, an estimated US $4 billion dollar market share. Strong force of supplier influence from the oligopoly music industry, with only four major record labels. Constant decryption of Apple DRM (Digital Rights Management) system by individual programmers.