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Revealed: The Key Metric Showing Apple Has Lost Its Innovative Edge

By Tim Beyers – Updated Apr 14, 2019 at 12:12PM

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Is it better to be an innovator or a tastemaker? The answer might surprise you.

Shortly after the turn of the new year, Apple (AAPL 0.79%) chief executive Tim Cook told CNBC in multiple interviews that the company's "culture of innovation" creates happy, loyal customers who commit to Apple's ecosystem -- a truism that Cook, now in his eighth year succeeding the late Steve Jobs, said was "probably underappreciated" by traders and investors.

Maybe in January, but not any longer. Shares of Apple stock are up 19% year to date, easily besting the 14% return of the S&P 500 over the same period. But is the jump justified? What has Apple done to demonstrate that the 2019 edition of its R&D machine is as prolific as the pre-2011 workhorse that Jobs led to a string of hits?

Businessman at work with laptop and smartphone with computer screen showing graphics and charts.

Apple is well known for getting customers to use several of its products at work and at home. Image source: Getty Images.

Tastemaker or trend follower?

Let's start with the good news. Under Cook, Apple has introduced plenty of new products and line extensions. Some of them have been extraordinary hits: the Apple Watch and AirPods, for example. Both came to market multiple years into Cook's reign as CEO.

Consider, too, that the Apple Watch is a category leader in much the same way that the iPhone has been. According to ABI Research, Apple's share of the overall smartwatch market is a shade above 43%: roughly five times that of competitors Fitbit, Samsung, and Huawei. Cook also said that wearables sales -- including both the Apple Watch and AirPods -- were up nearly 50% year over year last quarter. Talk about impressive numbers.

Apple is also focusing a great deal on services such as iCloud backup, Apple Music, app revenue, and a burgeoning opportunity in streaming television. There's no (ahem) simple apples-to-apples comparison between Cook's Apple and the one Jobs led.

Check out the latest earnings call transcript for Apple.

Hand writing on notebook computer with media icons and symbols coming out of it.

Apple has a lot of products, but how innovative has the company been lately? Image source: Getty Images.

The alternative? Measure investment in and results from R&D spending. Here's how Apple fares on a simple four-question test I developed last year and continue to use today in searching for winning investment ideas:

  1. Does Apple have internally developed products? What are they? When were they released?
    Yes (plus 2).
    Anyone who hasn't Rip Van Winkled their way through the last four decades knows the names of Apple's signature R&D achievements: the Mac, the iMac, the iPhone, the iPad, and the Apple Watch. Historically, Cook is right to tout Apple's innovative prowess.

  2. Is revenue growing faster than investment in R&D over the period when these products were released? By how much?
    No (plus 0). Annual revenue is up 67.1% since the end of fiscal 2012 through December of last year. Comparable R&D spending is up 71.9% over the same period. That's the sort of differential you'd expect from a young company still working on finding ways to serve its customers -- or a mature company trying to add new life to an aging product line. Apple falls squarely in the latter camp, especially when you consider that virtually everything the company introduced over the past year was a new spin on an old product. Only the lukewarmly received HomePod speaker broke new ground.

  3. Is gross margin expanding?
    No (plus 0). Apple's gross margin has been declining almost since day one of Cook's reign. The good news? High-margin services offerings may change the equation in a year or two.

  4. Can you point to evidence of new products being developed? How soon will they be released?
    Sort of (plus 0.5). It's almost unfair to call Apple's upcoming rollout of a streaming service a new product. Many streaming services already exist, and it's hard to imagine Apple offering anything to top Netflix and Amazon. We'll know if I'm wrong -- and I hope I am -- on March 25.

When inspiration matters more than innovation

A middling score of 2.5 would be of concern for any company relying on innovation to succeed. So in the case of Apple, which bets a significant portion of its reputation on being a world-class innovator, the mark is especially troubling. But is it as bad as it looks?

There are two potential ways to look at this data. First, you could say that Apple does a lot with a little -- and that's always been the case. Compared to peers, Apple is notorious for underspending on R&D as a percentage of revenue. So it really shouldn't surprise anyone to see the Mac maker spending a relatively paltry amount on R&D now.

But today's Apple is very different from the one Jobs helmed and requires a different skill set. Thankfully, Cook has a superior operational touch and is a proven allocator of capital for the benefit of shareholders. So what if his team seems less innovative than Apple was previously? Today, the company is bigger, backed by a mountain of cash, with products in demand in more areas of the world than ever before.

Apple may not be the stone-cold innovator it once was, but it's still a crucial tastemaker for billions of consumers around the world. That's why I still own the stock today and plan to hold it for many years to come.

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Tim Beyers owns shares of Apple and Netflix. The Motley Fool owns shares of and recommends Amazon, Apple, Fitbit, and Netflix. The Motley Fool is long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool has a disclosure policy.

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