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Is Apple Inc.'s Beats Deal Dead in the Water?

It's been some time now since word broke that tech giant Apple (NASDAQ: AAPL  ) was in advanced negotiations to purchase high-end headphone and budding music power Beats Electronics for a whopping $3.2 billion.

Fast-forward to today, and an Apple-Beats deal appears as elusive as ever, although negotiations are undoubtedly still under way behind the scenes.

Source: Beats.

However, this deal, which isn't an obvious home run especially given its steep price tag, still isn't done. So let's examine a few of the issues that could make this deal DOA for Apple and its investors.

Beats Audio: a service worth betting on?
Although it's dwarfed by the larger headphone division, Beats' budding audio service, Beats Music, has long been rumored to be the crown jewel driving Apple's acquisition attention. However, there's certainly a case to be made that Beats Audio might not be the subscription music silver bullet that Apple needs.

For starters, although apparently a free-to-paid conversion monster, Beats Music appears to lack the kind of massive user growth that Apple would be willing to pay up for, despite having the deck stacked hugely in its favor since it launched this past January.

According to recently leaked documents, Beats Music had just over 110,000 paid subscribers as of March, certainly nothing to sneeze for a three-month-old service. However, those same leaked documents also show that roughly 61,000, or about 56%, of Beats Music's total subscribers entered the service through the family-plan promotion that Beats struck with AT&T. To me, this at least partly calls into question the extent of Beats Music's true appeal among consumers.

The fair counterargument would be that Beats Music's impressive start, even if leaning a bit heavily on AT&T, could turn into a true force to be reckoned with in the music space when combined with Apple's own music muscle. But given that the dollar figures Apple is reported to be discussing sit in the billions rather than the millions, I want to be darned sure that the streaming music service sitting at the heart of this deal is a pony worth betting on.

Can Dr. Dre and Jimmy Iovine "Think Different"? 
According to many of these same reports, the other major attractors in this deal are Beats' two key star executives, hip-hop legend Dr. Dre and music industry veteran Jimmy Iovine.

Rumor has it that Apple would like to give the two executives ample responsibility to help navigate Apple's digital music strategy through a decline in album sales and digital downloads and safely into the on-demand era. However, it remains unclear just how well both executives might fit within Apple's notoriously insular corporate culture.

Source: Beats

Apple's executive team was reportedly infuriated when a video of Dr. Dre and actor/model Tyrese surfaced bragging that Dr. Dre had just become the first hip-hop billionaire and was on camera "drunk off of Heinekens." And while this kind of move was easily dismissed as dumb fun by the masses, it's also likely led to plenty of discussions about whether the executives Apple will be "acqui-hiring" would be an acceptable fit within as secretive a company as Apple.

Rumors have swirled lately that some combination of the Dre-Iovine dynamic duo could be kept at arm's length as "permanent consultants"  to receiving as much responsibility as running strategy for the entirety of Apple's content. Either way, especially in light of some recent events, there are certainly some unresolved questions about just how well this marriage of corporate cultures and executive teams might work in practice.

A deal to be done
One of the problems in getting a complete sense of how good a deal Apple will be getting if, or when, it buys Beats Audio is that we're not privy to the exact financials for Beats' two respective product lines.

In terms of dollar figures and historical significance, this deal holds massive implications for Apple broadly and CEO Tim Cook specifically. As Apple's biggest acquisition ever and what will undoubtedly become a defining moment for Cook himself, the stakes are about as high as they get for Apple.

As an Apple shareholder myself, I have a lot of faith in Cook, who's deftly navigated the world's largest publicly traded company in the shadow of one of modern business' most admired leaders. However, with the stakes so high and issues like those highlighted here, it's fair to see how Apple investors could be getting cold feet about the probable deal between Apple and Beats.

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Comments from our Foolish Readers

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  • Report this Comment On May 28, 2014, at 12:14 AM, Filters wrote:

    Beats Headphones are garbage and their music service is garbage.....Apple should buy Spotify or Pandora....if they want a headphone company buy Grado or Sennhiser

  • Report this Comment On May 28, 2014, at 12:15 AM, makelvin wrote:

    "...It's been some time now since word broke that tech giant Apple was in advanced negotiations to purchase high-end headphone and budding music power Beats Electronics for a whopping $3.2 billion..."

    Seriously, its been about a week since everyone was talking about the acquisition. I am beginning to think that all bloggers and journalists that cover Apple news have Attention Deficit Disorder. The truth is regardless if the deal actually went through or not, Apple is not going to announce it just prior to the WWDC. Can't you at least wait until the WWDC is over before announcing that the news has been awhile and conclude that it is probably dead in the water?

  • Report this Comment On May 28, 2014, at 1:25 AM, deasystems wrote:

    You keep saying things like "whopping" and "steep" when describing the rumored offering price for Beats. However, I don't think those words mean what you think they mean, Andrew. After all, how would you describe the $19 billion (6x higher) FaceBook paid for WhatsApp or the $12 billion (3.8x higher) Google paid for Motorola?

    That aside, I think you're on to something here—I seriously doubt Apple wants to associate itself with someone who likes to make a public spectacle of getting "drunk off of Heinekens."

  • Report this Comment On May 28, 2014, at 3:41 AM, applefan1 wrote:

    While I agree Apple doesn't need Beats Music, they don't need ANYONE else's music service. Why?

    Apple has 800 Million iTunes account holders. All Apple needs to do is go to the 3 major content suppliers, sign new contracts allowing for a different pricing model to reflect how much to pay for a subscription service, which would be the same as everyone else, and then modify the software to allow for a paid streaming service since they already have the content, it's just a matter of putting in the tracking abilities to do it. Then they just release the new service and without too much trouble the 800 Million and growing iTunes account holders will start paying for the subscription service quite rapidly without anyone like Iovine or Dr. Dre's help. Apple has already proven THEY can build a HUGE digital download site with more account holders than anyone else and they've PROVEN they can make $10 Biillion a year in Gross Revenue and some sort of Net Profits. Buying Beats for $3 Bil will take them a LONG time to recoup that money since Beats Music doesn't have any profits coming in. Beats Headphones only made $1.4 Bil last year, but we don't know how much profit and no one knows how sustainable their growth rate and profit margins are in order for Apple to recoup the money, not to mention ongoing salaries for potentially two people that they REALLY don't NEED.

    As far as headphones? While buying a huge existing market is great and all, the Beats headphones are highly overrated by the media and there are plenty of great 3rd party headphones and I think Apple was actually a big part in selling as many Beats headphones because they are prominently displayed at every Apple Store, it's almost like how Coca Cola has tons of shelf space at the local grocery store over the boutique natural sodas.

    I think Apple could have gone to Monster and co-developed a line of competing products that were as good or better targeting the same crowd and then Apple would simply cut the Beats headphones out of the Apple Stores and just push the Apple headphones OR simply just letting more 3rd party headphones that are of good quality.

    It's still an accessory and not everyone that buys Apple products buys a pair of headphones. How often do people replace their headphones anyway? Earbuds I can see since people lose them or the cables get broken. But there's a lot of good products on the market that Apple can either sell in the stores. If they bought a headphone mfg, I don't know which one they would buy due to the fact that Apple doesn't like too many SKUs in any part of their lineup. They usually like 3 levels. Good, Better and Best.

    But in the headphone industry. Good is the $200 to $300 range, Better is the $400 to $800 range and Best is in the $1000+ range and I don't think Apple is going to sell headphones much past $400 since those aren't the high volume market. The high volume is the $50 to $150 market.

  • Report this Comment On May 28, 2014, at 4:37 PM, RattyUS wrote:

    A mere 18 hours later and the deal is done.

  • Report this Comment On May 28, 2014, at 9:13 PM, WebGuyShy wrote:

    In accordance with Betteridge's law of headlines, the answer to this question, not surprisingly, is a big fat "NO"

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Andrew Tonner

Andrew Tonner is a tech specialist for The Motley Fool. He is a graduate of The University of Arizona with a degree in Finance.

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