The Secret to Apple's Success

With the way Apple (Nasdaq: AAPL  )  not only straddles the burgeoning tablet and smartphone markets but also holds sway across the computer, home-entertainment, and media fields, the moves it makes can have an impact on the future of hundreds of companies. With that in mind, we're taking a look at the week in Apple news to see how the latest activity affects the Cupertino giant, its suppliers, and even its competitors.

The secret to Apple's success: less innovation needed
Around the Fool there's been a lot of debate recently about Apple and its supposed need for innovation. Writer Chris Baines argued that Apple needs to constantly innovate to stay relevant, making the likes of Microsoft (Nasdaq: MSFT  ) a comparatively much safer investment. Rule Breakers analyst and writer Tim Beyers says Apple's need for innovation is exaggerated; product improvements have largely been incremental tweaks to existing product lines.

I tend to agree with Tim. For example, the iPad was little more than a larger iPhone upon its launch. Apple's genius was that it was the first company to understand what customers wanted in the nascent tablet market. The company then delivered with an easy-to-grasp user interface at the right tablet size. Without any real "innovation," Apple was able to expand its iOS operating system to a whole new growth avenue.

Similarly, as Tim pointed out, what was the real innovation in the iPod's early years? The company added a click wheel, and later a color screen, but the real story was that Apple was the first company to lock consumers into high-capacity MP3 players. Customers were generally pleased with the product and stuck with Apple's products through future upgrades.

Apple's success is largely the result of its tight focus on a small number of product lines that are complementary to one another. For example, despite all the "innovation" needed to sustain Apple, here's how its research and development compares with Microsoft's over the past half-decade.

Company

2006

2007

2008

2009

2010

Apple, absolute R&D (millions) $712 $782 $1,109 $1,333 $1,782
Apple, R&D as a percent of sales 3.7% 3.2% 3.0% 3.1% 2.7%
Microsoft, absolute R&D (millions) $6,584 $7,121, $8,164 $9,010 $8,714
Microsoft, R&D as a percent of sales 14.9% 13.9% 13.5% 15.4% 13.9%

Source: Capital IQ, a division of Standard & Poor's.

It might look as though the scope of Apple's R&D is limited. However, whereas Microsoft might have dozens of teams trying to create "the next big thing" in divergent areas, Apple has followed a different strategy: It allowed others to create the growth markets and then took its existing platforms and technologies to address what users really wanted from these markets. The iPod, iPhone, and the iPad entered markets that had long existed; Apple was simply the best at addressing what users wanted. After the initial release of the iPod, changes have largely been incremental upgrades to the same platform and technologies.

Detractors might say that Apple's success in the past decade was largely a result of two breakthroughs: the iPod and the iPhone. To an extent, that's true. The iPod fueled growth early in the decade, and the iPhone provided late-decade growth and laid the foundation for the iPad. Surely Apple can't come up with a third game-changing innovation, right?

Well, once again we find that Apple doesn't really need to reinvent the wheel so much as stretch out its calculation of pi by a few more decimals. Apple's focused efforts on creating iOS and a rich development community around it now yields a powerful platform that can scale out to new markets. The most logical market would be home entertainment, but other incremental improvements, such as better capturing of mobile advertising through iOS, could also yield outsized gains.

Oh, and there's also the little fact that both the tablet and smartphone end markets still have plenty of growth left in them. So that'll go a long way toward providing the growth needed to justify Apple's higher earnings multiple.

6 million iPads?
While Research In Motion’s (Nasdaq: RIMM  ) CEO boasted in a conference call on Thursday that that his company's PlayBook is "way ahead" of the iPad, reports from rumormonger DigiTimes say RIM and other tablet makers might be falling farther behind. According to DigiTimes, Apple is gearing up for a monthly production of 6 million iPads for its next-generation model. For context, Apple sold 4.2 million iPads in the entire last quarter.

The tablet market is hot, but it's hard to believe that it's that hot. I'd caution investors that these kinds of reports are shaky and often untrue, and that Apple could be ramping initial production higher to meet launch demand.

Disrupting the media?
Tech blog Engadget recently posted a survey from DirecTV (Nasdaq: DTV  ) that asked users about their interest in a digital NFL Sunday Ticket that could be viewed with digital devices such as Apple TV and the Roku Player.

So far, although Netflix (Nasdaq: NFLX  ) has fully embraced a transition to digital set-top boxes to spread its streaming services, traditional media channels have been hesitant to move online. That's because cable channels enjoy mass distribution under their current arrangement with cable operators, and they could threaten that relationship if they give away too much content over the Web.

In the end, one of the largest deterrents to having consumers cut the cord and move online is the lack of live programming such as sports, which makes DirecTV's survey of offering live NFL broadcasts all the more intriguing. Along with Disney (NYSE: DIS  ) unit ESPN's decision to start offering many live events on its ESPN3 site, the advent of live media streamed online could create another powerful catalyst for consumers to shift behavior away from cable, and toward devices such as Apple TV and the iPad, which are built for consuming streaming media.

That's it for this week's Apple news. If you're searching for other opportunities in the mobile world, we've created a special report featuring a mobile giant that The Motley Fool has put its own money behind. Get instant access to this report right now.

Eric Bleeker owns shares of no companies listed above. Disney and Microsoft are Motley Fool Inside Value recommendations. Apple, Disney, and Netflix are Motley Fool Stock Advisor picks. Motley Fool Options has recommended a diagonal call position on Microsoft. The Fool owns shares of Apple and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (10) | Recommend This Article (10)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On December 18, 2010, at 2:36 PM, fatmonk wrote:

    Excellent,

    Many companies focus to much on too much on features and leaping too far head of consumers. It is end up higher cost for consumer eduction and production. On the other hands, Apple products seems to have more rooms to add on features

    Apple innovation is also breaking the Rule. iPhone introduce the touch and Apple was able to change the Phone companies Rules.

    The AppStore is a step up from iTune but is is going to hug and it is going to the central of apple success in the area of keeping customers and generates profit.

  • Report this Comment On December 18, 2010, at 6:38 PM, daveshouston wrote:

    Many consumers (and apparently competitors) simply don't understand the importance of the iTunes ecosystem and automated built-in integration between devices.

    For example, my wife and I have a MacBook Pro, an iMac, an iPhone, two iPads, and an iPod touch.

    Simply plugging the iOS device (iPad, iPhone, iPod) into a USB port on the laptop does three things automatically: 1/Backs up the device; 2/charges the battery on the device; and 3/Syncs everything (bookmarks, apps, music, videos, eBooks, calendar reminders and ToDo's, and contacts. Information and media are the same on all devices. If I bookmark this web page on my computer, that bookmark automatically appears on all my other devices. I don't even have to think about it. Just plug in the USB cable at bedtime for the nightly charge and it all just happens.

    Now suppose i didn't understand the importance of this ecosystem. I might have purchased a Windows laptop, an iPhone for me, an Android phone for my wife, a Zune, and a Dell Streak tablet. There would be no easy integration. I might be able to figure out how to sync everything, but to do that I'd probably have to hire a system administrator. Seems to me a mix of devices like that would be a relative nightmare.

    Much of the advertising and promotion we see is 'device' centric. The sales guy at the Verizon retail store pushes the Android phone because that's what he has to sell. He doesn't bother to mention the integration nightmare brought about by a mix of incompatible devices. He doesn't mention that the Apps I've already purchased for my iPhone and iPad won't work on the Android.

    Some geeks might enjoy the challenge of figuring all that out but not the average consumer.

  • Report this Comment On December 18, 2010, at 10:46 PM, Henry3Dogg wrote:

    Innovation is not measured in $. Especially in software.

    Microsoft spends many $, but there is minimal innovation.

    This is because their software is trash that is incredibly expensive to maintain and to extend.

    Look at the total achievement os the XP to Vista To 7 cycle. The economics are laughable.

  • Report this Comment On December 18, 2010, at 11:33 PM, BFil wrote:

    The vital piece of the Apple ecosystem that is not credited here is the chain of Apple shops.

    There was plenty that could have gone wrong here, but Apple now has a huge, interesting and accessible space not only for its message but also perhaps the only "safe haven" for those venturing into the technology.

    An actual - enthusiastic - person can help you as a beginner and sustain you as as your expertise grows.

    And the thing not only makes shed loads of money anyway but does not require a split with semi-interested retailers

  • Report this Comment On December 19, 2010, at 1:58 AM, xmmj wrote:

    "Without any real "innovation," Apple was able to expand its iOS operating system to a whole new growth avenue."

    I am sorry - but you totally do not understand the concept of innovation here. People think that the iPad is no more than an overgrown iPhone miss the fact that a tremendous amount of effort went into developing and refining the system. To the causal onlooker "Oh, it is so natural, so simple to use" translates into "it must have been simple to create." If it was so damn simple, then why is it that Palm or RIM did not invent the iPhone years ago? ZHow come we did not have a plethora of iPad-like devices 5 or 10 years ago?

    It takes an extraordinary amount of work, perseverance to make some thing that is simple to use. And most of all - it takes vision.

    Too many people miss that. There are a million directions in which mere evolution can go. The trick is in finding which one is the best.

  • Report this Comment On December 19, 2010, at 2:14 AM, UrbanBard wrote:

    You don’t need as many R&D dollars when you build upon successes. Most of Apple’s innovations were at its foundations, many years ago, which kept it from having to rework its software often.

    What were those innovations? Quicktime, Mac OSX which it adapted from NeXTstep, WebDev (NeXT), WebKit (Open source KHTML), The Apple Professional Applications, iTunes (SoundJam MP), iWork, iLife, etc.

    The point is that if you need not constantly reinvent the wheel, then you need not spend much money. Apple may not feel any real competition. They may want to hang into their dollars during the continuing economic downturn. Apple has uncertainties due to a declining dollar internationally; this might put a crimp in Apple’s supply chain. Hence, it may want to build in extra profits into the hardware to compensate for currency fluctuations.

    Microsoft must spend R&D money because it is way behind the technology curve. Windows Seven is a vastly improved version of Vista, which is improved Windows Server 2003, which is an improved version of Windows NT. Its old foundations is why Windows has such lousy security.

    Microsoft needs to migrate Windows to a modern, modular operating system. It has promised that this will mostly happen in Windows 8, but that is doubtful. There are major problems with Windows foundations which make it a Stand Alone Disk Operating System, rather than a modern OS like the UNIX operating systems in Linux, Mac OSX, SUN and the other mainframe OSs.

    Besides, the market which Apple is aimed at now is the iPod, iPhone and iPad. These do not require high R&D because its users have relatively low needs.

    R&D costs can be cyclical, as well. If Apple has technologies waiting in the wings which it does not, yet, have fast enough hardware for, then the products must wait.

  • Report this Comment On December 19, 2010, at 5:18 PM, fatmonk wrote:

    @Henry3Dogg,@ daveshouston i agree with APPL innovations is making its products easier to use and integrate these products well with iEco.

    Tablet, MP3, AppStore,online Music Store were out there way before iTune, iPs.

    The best of MSFT innovation will be no more Balmer...

  • Report this Comment On December 20, 2010, at 12:45 PM, studentrights wrote:

    The big picture is missed by most people. Apple is multidimensional in it's approach to it's eco-system.

    As others have said, Apple has it's own hardware (Mac), operating system (OS X), media player (iTunes), media store (iTunes) and app(s) stores (iTunes), but they also have brick-n-mortar (Apple) stores, Mobile Me service as well as professional productivity such as the wildly popular Final Cut Pro.

    Then you have to consider that supports the Mac (computer), iPhone (phone), Touch (media device), iPad (tablet) and Apple TV, which all run OS X.

    Apple hits every product on all three axises; hardware, software and services with a depth that no one even comes close to. Then hit it with a full compass of services that all work together.

    The AppleStores are unrated. No one has been able to maintain their own stores, yet AppleStore are growing off the hook. Nothing like getting face-to-face service and support directly from the company, instead of 3rd parties like Verizon and Best Buy.

  • Report this Comment On December 20, 2010, at 1:09 PM, TMFRhino wrote:

    xmmj,

    Did you read the rest of the article? The reason I put "innovation" as apostrophized is that people tend to think of Apple's needing to re-invent the wheel with each new success, when really their genius is their ability to focus on consumer demands for each segment and execute the best. That's not to degrade the work required to release a product like the iPad which nearly a year past its release mops the floor with every tablet. Its to highlight that Apple has created a robust platform (iOS), and their best in class focus on evolving it to customer demands means it can scale to new products without the mythical necesarry (again) "re-inventing of the wheel."

    I think if you focus less on semantics there, you'll see the point of the article was largely in line with what you said.

    Best,

    Eric

  • Report this Comment On December 21, 2010, at 5:27 AM, innovationprof wrote:

    I'm sorry, Eric, but I have to agree with xmmj here. As one who researches innovation and entrepreneurship, I can tell you that you do need to be very careful with the semantics, or you will distort the message you are trying to get across. "Words mean things".

    The concept of innovation is to create something new which creates value for the consumer. It is clear, I think that Apple does that. Putting scare quotes around the word only serves to confuse the issue.

    Innovation Professor

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