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Apple's (NASDAQ: AAPL ) share of the tablet market fell to its lowest point ever in the third quarter according to the latest data from IDC. With no product refresh this spring for the iPad line, the company ceded more than 10 percentage points year-over-year to competitors' Google (NASDAQ: GOOGL ) Android tablets and, to a lesser degree, Microsoft's (NASDAQ: MSFT ) Windows 8 tablets.
But Apple's not worried, nor should it be. Because while the company may be losing market share, it's keeping mind share.
People use their iPads
The proliferation of cheap Android tablets, particularly in China, has caused Android shipments to grow significantly faster than iPad shipments. At first blush, this sounds great for Google, which intends to make money from tablet owners using its products like Google Play and Search -- the more, the better.
Research firm IHS found that cheaper tablets, however, tend to have much higher return and failure rates. As a result, the installed base of iOS tablets still leads the market, and Apple commands 81% of tablet use in North America.
Having the largest install base and number of active users creates a virtuous cycle as content creators and app developers will look for the most engaged audience. But more importantly, like Google, Apple makes money from people using its tablets.
The value of the iTunes Store
In Apple's fiscal 2013, the iTunes Store was part Apple's fastest growing segment. Even while unit sales of the iPhone and iPad grew just 20% and 22% year-over-year, iTunes Store revenue increased 24% indicating growing engagement from iOS device owners.
In recent months, App Store sales have climbed at a rapid pace. Downloads climbed 40% in September, 46% in August, and 33% in July. Google may have a 25% edge in download rates, but that number still belies the market share data and even disguises the fact that Google Play brings in just half the revenue of iTunes.
The biggest cause for the revenue gap between Google Play and iTunes is the caliber of customer the iPad attracts. Apple has very little competition for high-end consumers. These are consumers that spend money. Meanwhile, Android tablet makers use price-cuts as their biggest marketing tool, attracting less valuable customers for Google. As a result, it's much more likely that an iPad owner will spend money on apps than an Android tablet owner. This trend continues to feed the virtuous cycle for iOS app and content development.
Apple has bigger intentions than beating Android in units shipped. It seems to be going after the Microsoft dominated PC market.
The company announced last month that its productivity and creative software suites, iWork and iLife, will come free with the new iPads. This is a direct shot at consumers who may still prefer a PC, looking for a device to do more than play videos, check Facebook, and crush candy.
Microsoft's Surface line is aimed at keeping those consumers in Windows-land, but hasn't fared well. The company was forced to drop prices on its tablet line, and took a $900 million writedown on its inventory in July.
Even with Microsoft's industry leading productivity suite, Office, the company doesn't have the app selection to compete with the iTunes Store. So, while Microsoft dropped prices on its Surface, Apple was actually able to increase the average sales price of an iPad by $3 in the third quarter. That trend ought to continue in the fourth quarter with a product refresh and the new iPad mini with Retina display priced higher than the original iPad mini.
Mind over matter
Apple is attracting the tablet power users -- people that engage in apps and content and want a device that can handle just about anything they throw at it. It's attracting PC users. As a result, it's attracting content and app developers. Because of this huge gap in device usage, Apple has the edge in tablet computing regardless of what the shipment numbers say.
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