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Unlocking the Value in AAPL Part 5: Apple's History

This is the fifth segment in an 8-part series on Unlocking the Value in AAPL.

*Disclosure: The author owns AAPL.

Apple's own history does not offer any assurance to investors. Apple revolutionized the personal computer with the introduction of the Macintosh. Despite having first mover advantage for quite a while, Apple failed to secure a significant position in the personal computer market. They were nearing bankruptcy when Steve Jobs returned to resurrect the company.

If you attribute Apple's troubles in the personal computer market to the company's ethos in general or to the absence of Steve Jobs, it may appear as if history is repeating itself. Indeed, many observers and investors feel that this is likely what is happening, perceiving Apple's path from success to near-bankruptcy in the 90's to be a warning of what is to come. History absolutely has a role to play in how the market is currently valuing Apple (regardless of how misleading it may be).

Windows and Android

Windows was everything to Microsoft (and still is in many ways, for better or worse). Personal computer operating system dominance was their strategy. The company could not succeed without Windows succeeding. Windows could not succeed without achieving near total dominance.1 Microsoft pursued this dominance with ruthless abandon.

Their dominance resulted in most popular software only running on Windows, thereby making it the inevitable choice for most consumers. This circumstance allowed Microsoft to [extract rent][] nearly every time a personal computer is sold. It also made life very difficult for Apple, leaving them with a classic chicken and egg problem.

The role Android plays for Google could not be more different.2

Android is not at all central to Google's business. It is a hedge against being locked out of the mobile market by competing proprietary platforms. Google invests in Android without expecting direct returns. They only expect a channel through which consumers can access their services.

Android does not need to dominate for Google to succeed. Google does not need Apple to lose in order to succeed. In fact, Google may earn more money from the iOS platform than they do from Android.3

These differences are extremely important and have far reaching implications for both platforms. Google does not have a strong incentive to cultivate Android carefully. They have been able to accomplish their objectives by making Android good enough, “open”, and free. If it becomes a fragmented mess that is difficult to develop for and if consumers cannot upgrade their devices to the latest version of Android (or even get security updates) it does not really matter much to Google's strategy. All that matters is that Android continues to make its way onto enough devices. Android is not really their product, eyeballs are.

The most critical problem that follows from this is a several year lag in platform adoption by developers. Most of them are still targeting the 2.x versions of Android in order to support the 40% or so of Android users still on these versions. Android OEMs are slow to support new versions and most users never upgrade the OS.

Windows had this problem to some degree, but Microsoft had a very strong interest in pushing OEMs and users to the latest version of Windows. The carrot of upgrade revenue ensured this and enabled them to spend lavishly on marketing campaigns. Long before consumers were lining up to buy the latest Apple products, they lined up to buy Windows. Can anybody imagine consumers spending money for an Android update today, let alone showing that kind of excitement for one?

Macintosh and iOS

Perhaps the most significant difference between the Apple of today and Apple during the lost decade is leadership. They may be without Steve Jobs today, but they do have his hand-selected team leading the company. Jony Ive still has the same impeccable taste and design sensibility which lead Steve to consider Jony his spiritual partner at Apple. Tim Cook has effectively been running the business side of Apple for a very long time. This is a far cry from an Apple run by a sugar water salesman.

Of course there are also very important differences between Apple's platform then and now.

iOS enjoys several advantages the Mac never did which provide assurance that it will not suffer the same fate the Mac did before Steve returned. Most importantly, iPhone and iPad each achieved the status of fastest selling device ever and each are among the ten best selling products of all time. iOS has a very large share of the most active, most satisfied, most loyal and most affluent mobile device users in the world.

These users love their devices as well as the software and services available on them. They adopt new versions of iOS at a rate unheard of in the personal computer industry, even for Apple. The just-released iOS 7 may be over 36% adoption in just 24 hours (and is on track to top all versions of Android less than 1, possibly 2 years old in its first weekend). This is truly astounding. Even more astounding is that this rate of adoption for new versions of iOS is increasing each year.

This rapid adoption of innovation has played a major role in Apple's ability to maintain the app advantage they initially captured by being the first mover. iOS delivers a platform and audience with the latest technology that developers and startups need in order to stand out.

This massive customer base along with industry leading tools has created an equally massive 3rd party software ecosystem.4 iOS has always been the mobile platform of choice for developers and there is no sign of this changing any time soon.5 I am not aware of a single important or widely used mobile app that is not available for iOS.

In addition to effectively being guaranteed access to every app they could want, iOS users also have access to every major internet service, including those offered by Amazon and Google who make competing devices. As internet service companies pursue a horizontal strategy, they must reach every consumer possible. Users are more important than device sales. This compels them to offer their services on all platforms with a meaningful user base. With Apple the exact opposite is true, which is why Apple services are exclusive to Apple device users (with the exception of iTunes on Windows6).

Customers looking for a guarantee that they will have access to all of the great mobile apps and services available must choose iOS.

Apple does not need dominant market share or even majority market share to sustain their business. They need enough of the right market share. iOS has a user base in the hundreds of millions, a developer base in the hundreds of thousands, and over a million apps. This is the most vibrant consumer ecosystem the technology industry has ever seen aside from the web. The platform has reached a critical mass that is self-sustaining.

iOS and Android

With iOS, Apple has both the chicken and the egg where the Mac had neither. Windows had strategic tailwinds and a virtuous cycle which Android does not. History is most definitely not repeating itself. (Note: I have elaborated further on differences, discussing network effects, lock-in, and switching costs in Platform Wars: Why This Time Is Different)

So far we have considered several factors that I consider to be unimportant to moderately important in driving the market's current valuation of Apple. In the next segment I will consider what I believe to be by far the most import factor influencing Apple's current valuation.

  1. Whether this is actually true or not is beside the point. Microsoft believed it and behaved accordingly.

  2. The role Android plays for Samsung is also different. Samsung just needs an operating system for their devices that is marketable to consumers. It doesn't hurt that Android is free.

  3. At one time Google and Apple were close partners rather than competitors. Eric Schmidt had a seat on Apple's board and tight integration of Google services was important in the early days of iOS. There may come a day when Google's decision to abandon this partnership in an attempt to control everything is viewed as a fatal mistake.

  4. I'll have more to say about the success of the App Store in a future series comparing the web with native app platforms.

  5. This is not to say that Android is hurting as a development platform. Android has about the same number of phone apps as iOS including most major apps. These apps are increasingly of high quality and are sometimes available simultaneously with the iOS version. The fact that both platforms are thriving further demonstrates how different the mobile market is from the personal computer market.

  6. iTunes on Windows was essential to building the iPod platform. It was created not to make Apple services available to users of other platforms, but to expand the reach and potential customer base for Apple devices. We are long past the point where this is necessary for Apple and will not ever see Apple offer services on other platforms again (outside of a web browser).