The Circle of Life: Apple Beyond the iPhone
Apple was the last FAANG company to report its financial results for the quarter ending in June and I can’t shake the feeling that this will prove to be the milestone we’re going to look back on in the future when we ask ourselves what was the decisive moment when the company pivoted from relying mostly on hardware products for future growth.
While iPhone revenue was down 12% Year-over-Year with the Services business also under-performing compared to analyst expectations, the company did not only beat analyst estimations for profits, it did so for revenue as well and recorded its the best Q3 ever. While this solidifies Apple’s existing too big to fail persona, rewarding the company’s strategy to diversify their hardware into what they call the Wearables space, the company is well aware that profits from the current generation of hardware are slowly vanishing as the market is getting saturated.
For some years now, the Cupertino company has been well on its way of leaving behind its old image of being ‘The iPhone Company’ and evolving into a new entity that’s most valued by today’s market with a product lineup that will allow it to evolve into the next age. This is a seriously bold move since up until now Apple’s main strategy against the commoditization of its hardware was developing proprietary software that’s obviously better than the competition.
Looking at the diminishing product differentiation of computers, smartphones and tablets today, it’s safe to say that we’re fast approaching the high point in the performance S-curve where progress is slowing and competitors are catching up. With little opportunity for extra functionality in this form factor and rival companies starting to not only match Apple’s hardware capabilities, but also their prowess in terms of convenience and user experience, the company decided to move it’s value proposition some place else in the value chain. Somewhere away from the ‘Device+OS’ combination that’s decreasing in sales and into a place where they can leverage both their enormous install base and their equally-impressive war chest. Thus began Apple’s Age of Services.
The company started testing the waters with iCloud and later Apple Music and while the former was a no brainer widely adopted by purchasers of cheaper devices as a means to expand their storage space, the former is still struggling to gain market share against its main rival, Spotify. The recently launched Apple News+ isn’t doing much better despite the fact that it was temporarily available for free at launch, with only a fraction of adopters in the first two days when compared to the install rate of their iOS updates.
The stand-out service for the company at the moment, one that’s also guaranteed to improve in the coming years, is no doubt Apple Pay. In the most recent earnings call Tim Cook mentioned the service is recording 1 billion transactions per month and rising fast, with the company reportedly earning anywhere between 0.15% and 0.05% of every transaction made with Apple Pay, depending on the country.
Apple Card is next in line for public launch and, despite its physicality or lack of a visible monthly subscription fee, we can view it as a vehicle that enables and expands the capabilities of Apple Pay. I personally see this as a big first step in Apple becoming its own master of the user experience involved with purchasing physical products and, possibly, a good opportunity to open new doors in the future.
While customers in some countries can already choose to divide their purchase of a new device into monthly installs with the iPhone Upgrade Program, the process is less than ideal. Because the financing is done via a third party, the user experience of this process is only bank-grade -read ‘dismal’- and it’s safe to say Apple’s cut in all of this is reduced considering the bank does most of the heavy lifting in terms of processing.
And there is Apple’s opening. Considering the large value of transactions made by the company every year and the safety net provided by it’s billions in cash stashed in various currencies, it would be in their best interest for Apple to became a financial institution. The partnership with Goldman Sachs for developing the Card is, no doubt, an improvement to Apple’s bottom line due to the lower processing fees but I think this is just a -very big- in the door that leads to the room with no fees. There are a lot of bureaucratic and political impediments in their way but, when you’re the company that makes the most successful consumer product ever invented and deals with $50B+ in revenue every quarter, the gains are likely to outweigh the costs.
Two other services announced for the end of this year are Apple TV+ and Apple Arcade. Between the reported $1–2 billion invested in the former for the first year -compared to Netflix’s $12B-, the intent to offer only family-friendly shows and the A-grade talent present when the service was announced in Spring, there’s really no way of telling if it will be successful in the hit-driven business.
Apple Arcade on the other side is already seen as a breath of fresh air by gamers and developers alike. The current Free-to-Play monetization model seen in 90% of iOS APPs is the regrettable consequence of the marketing dogma ‘Nothing beats free’ and, if you ask me, is the main culprit for the dark age mobile gaming finds itself at this point. The (semi)hidden fees in the form of In-App Purchases are starting to test consumers’ patience and with over 1,400 APPs being published in the AppStore every day, developers are hoping that Apple’s Arcade will make their products easier to discovered by users.
As the games streaming space is predicted to get increasingly crowded in the near future, people are starting to ask themselves if there’s a potential limit in the number of subscriptions an individual will take on. As stated previously, I believe consumers will limit their consumption of subscription services based on their financial resources compared to pre-subscription times and, secondly, depending on personal interests in terms the medium they want to consume. It’s completely plausible that, if you’re more of a gamer and less a TV consumer, you’ll likely have two or more subscriptions to gaming services like Stadia and Apple Arcade and one or no subscriptions to TV streaming services like Netflix.
The success of the service will ultimately depend on how strictly it’s curated in terms of quality, how attractive potential profits are for developers -vs. the current situation- and finally the pricing -acceptable between $5-$7.
As Apple launches more services to an ever-increasing subscriber base and starts to take more control of their billing, soon enough they’ll find themselves in a position where it will make a lot of sense to wrap all these subscription services into one or more bundles.
You could have a bundle made up of AppleCare+iCloud offered to you at a discount when you buy a new device or an (AppleMusic)+(AppleTV+)+(AppleArcade) if you’re interested only in entertainment-focused activities. There are also possible synergies to be made between these subscription packages and physical products, for example, if you’re interested in the one subscription to rule them all, you would get a better price on your next iPhone or HomePod. The more services Apple creates in the future and the more diverse they are, the more opportunities they give themselves to create more of these synergies going forward so we can safely assume they will improve and go beyond the existing spheres of Cloud Storage, Insurance, Payments, Entertainment and News.
One could argue that Apple’s success in developing a profitable Services business hinges on the company selling more of its hardware, more devices equals more opportunities to stream said services to consumers. While this is how things stand at the moment, the company plans to have many of its future services uncoupled from its devices and available for multiple platforms. Furthermore Apple’s 1.4 billion devices being used worldwide and their current 420 million paying subscribers are anything but trivial, especially if you consider most of their owners have the financial resources to become subscribers of said services. Add this to their investments in consumer-grade AR technology and their self-driving car efforts and they’ve put themselves in a superb position for the future.
With all the services expected to be launched only towards the end of the year and no significant hardware launch slated for the next 12 months, Apple finds itself in a state of limbo. The main focus now is to fill the airwaves, news articles and financial reports with positive news and use part of the cash they have in hand to get them through this period.
Navigating these waters is proving unusually difficult for them after the company’s image as the last bastion of user privacy was recently damaged by a scandal relating to third parties having access to user’s voice clips recorded by Siri. Although the company promptly fixed the issue by cutting off access to this data and adding that in future OS versions users will have the ability to opt-in to this feature, I strongly believe this should have been the case from the start, and now a seed of doubt regarding the company has taken root in the back of my mind.
Recently the DOJ announced it will ‘begin an anti-trust review of market-leading online platforms’ and it’s easy to see why the AppStore would be amongst these platforms based on the number of its users. Judging from the stock behavior in the days after Apple announced its earnings, analysts are optimistic that the company is more likely to get a Facebook-sized fine instead of the most extreme measure of splitting it up in components.
A more substantial threat comes by way of tariffs. A 10% tax will come into effect in September and will affect most of Apple’s hardware products coming out of China. Perhaps one more reason to make the switch to services.
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¹Keep in mind that ‘affordable’ means different amounts of money when you’re talking about a device that will keep you alive compared to any other gadget that you would ‘like’ to have.
