Operations Strategy of Apple Inc.

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 nobrainer 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.

This graph originally appeared in a Bernstein analysts report on Apple and

was included in a Fortune blog post (Is Apple suing Samsung and
tooling up its factories?, Nov 15). As you can see, Apple has been
dramatically increasing its capital expenditures, particularly outside of
retailing. For 2012, they are expected to spend north of $7 billion on top
of what they spend on their retail arm. Note that this is very much in line
with what we discussed in our previous post on Apples operations. They
bet big on technology that lets them have distinctive products. With their
limited product line and high volume, they can make commitments that
other tech firms may shy away from. It also means that (if they are right)
other firms are going to be hard pressed to catch up if Apple has locked
up a large amount of supplier capacity.

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.

Srikant Patra
B309051
EEE(8th Sem)