Over the last several years many Wall Street analysts have contended that Apple (AAPL +0.04%) has lost its way and is no longer developing products at the cutting edge of technology and is simply adding "small" enhancements now. In addition, these analysts say the company needs to focus on gaining market share in developing countries by offering a low-priced phone.
However, lack of innovation is the furthest thing from the truth, according to the people in the know and those buying Apple products. Innovation, not building low-end phones, will drive growth in earnings and cash, and those investors who recognize it will be rewarded in the long term.
Innovation central is in Cupertino
For the ninth straight year, the Cupertino tech giant was named the most innovative company, according to a survey of 1,500 top executives spanning a diverse group of industries in different geographic regions. The list was published by Boston Consulting Group.
One of the latest iPhone models, the 5s, may not appear to be innovative on the surface (it looks just like its predecessor on the outside), but under the hood it has several state-of-the-art features.
The computing system was upgraded to 64-bit technology. This marks the first time a smartphone has the same architecture as a PC or even some military hardware. With a new "motion" coprocessor onboard to handle some routine tasks, the main processor can be freed up to perform other operations like gaming and video much faster than before.
Another new function added to the iPhone is one-touch access. Instead of the user swiping and then entering a four-digit code on the keypad, the device can now be unlocked by simply touching the home button. A fingerprint sensor confirms the owner's identity. Again, this is first time technology like this has been added to a smartphone.
Maybe not as innovative as the new processing system and fingerprint sensor, but probably just as important, is a battery with expanded capacity that will result in longer times between recharges.
Innovation means higher sales, more long term value
Because of innovation like that described above, Apple has reported increased iPhone sales every year since the product was first released in 2007.
Source: Apple Press July 23, 2013
It should be no different going forward, based upon initial sales of the latest devices offered by Apple. During the first weekend the two new models, iPhone 5s and 5c, were available, nine million units were shipped, handily beating the five million reported for the iPhone 5 last year.
Sales of the iPhone, alone, exceed the total revenue of 21 of the 30 members of the Dow Jones Industrial Average, and all but 26 companies in the S&P 500 index.
After paying its bills, Apple will return a lot of the cash generated from iPhone sales to investors in the form of dividends and share buybacks. The company reinstated its dividend in 2012 and increased it this year. The company now pays $12.20 per share annually and yields 2.5%.
Earlier this year, the board of directors authorized an expanded share buyback program, upping the ante to $60 billion. This means that the remaining shares will have more value. The bottom line is that a patient investor holding for the long term and ignoring short-term thinking by analysts will be rewarded because of the innovation created.
Search engine optimization
Another great innovator, No. 3 on the BCG list, also comes from the tech sector. Google (GOOG 3.85%) didn't actually invent the Internet search engine, but optimized and improved it with best-in-class methods -- a secret sauce of complex computer algorithms -- which are updated periodically.
The company just announced the latest overhaul, the first since 2010, and named it Hummingbird . According to Google officials, it has the potential to improve about 90% of the searches it performs. Based upon a global marketshare of 88%, almost 80% of all searches will be faster and more relevant because of Google's innovation.
Power for the people and even more revenue generated from ads and users clicking on Web pages that show up in the search results. This means more cash in the company coffers and increased value for shareholders.
Innovation has led to rapidly expanding market share and market capitalization in a relatively short time. Google became the third most valuable company within about 15 years of incorporation. Apple holds the top spot.
GOOG Market Cap data by YCharts
Conclusion
Innovation has been the key driver in the success of two of the world's most valuable companies and should keep being important going forward.
In the case of Apple, the upward trend in iPhone sales will likely continue, generating more cash, and returning more value to investors in the form of dividends and share buybacks.
For Google, improved Internet searches will result in more revenue from web clicks and ads. This will increase market value and enrich shareholders that hold the stock.
