So long, break-even

The following is another excerpt from a report titled “iTunes Business Review” which will soon be available for purchase through the Asymco Store. If you are interested in the product please get in touch.

iTunes store will be 10 years old next month. From its inception Apple has stated that it aims to run the store “at break-even”.  The business has grown so rapidly however that its profit-free nature has come under severe pressure.

The reasoning goes that as more media types have been added costs have increased but revenues have increased even faster. Consider the estimated gross revenue base as shown below:

Screen Shot 2013-03-22 at 3-22-2.39.55 PM

What is known as iTunes today has quintupled in seven years. Although cost of content sales are likely to have been preserved as a ratio (about 30%) the vastness of transaction volume (estimated at 23 billion item transactions in 2012 alone) implies that there are some significant economies of scale.

This implies that the operating costs are spread more evenly and that therefore the possibility exists for some operating margin.

Put another way, at break-even the cost of operating iTunes stores would be about $3.75 billion. It’s hard to imagine this level of operational expense for digital content.

For this reason, management has begun since 2010 to suggest that at least the App Store is run “a little over break-even”. How little is a good question. A one percent operating margin (from gross revenues) would imply as much as $45 million margin. I estimate 2% is possible on Apps and 1% on Music.

That’s $150 million in margin content. Heady stuff.

However, since folding its Software group into iTunes (the blue area in the graph above) the margin picture changes dramatically.

The Software group is one of the forgotten heroes of Apple.

Apple’s software division “Apple Software” is responsible for the following products:

  • iWork which includes Pages, Numbers and Keynote. These are available through the Mac App store at about $20 per product and the iOS App Store for $10.
  • iLife which includes iMovie, iTunes, iPhoto, GarageBand. The OS X versions are available free with new computers but they are also available as paid downloads for OS X through the Mac App Store at $15 each and for iOS devices through the App store at $4.99 per app.
  • OS products including downloads of iOS and OS X. These are mostly free but some OS X updates are not free (typically $19.99 for new version including the server version of OS X.)
  • Professional tools which include the following products: Final Cut Pro (Video editor $299.99), Logic Pro (Music editor $199.99), Aperture (Professional Photo workflow $79.99), Compressor (additional features for Final Cut Pro $49.99), Motion (video transition editing for Final Cut Pro $49.99)
  • Administration and development tools which include:  Xcode integrated development environment which is free Apple Remote Desktop which is priced at $79.99.

All these products are now sold through either iTunes App Store or Mac App Store. They used to be sold as traditional boxed software for many years but Apple has transitioned them all to be download-only and folded them into the catalog of third party apps while lowering prices.

My estimate is that Apple’s own software generated $3.6 billion in Revenues in 2012. As you can imagine, this is a high margin business  which grows at nearly 20%/yr. Although I estimate that the software business has been overtaken by the Apps and Music businesses in gross revenues, it keeps an operating margin similar to that of Microsoft or about 50%.

This means that iTunes inclusive of Apple’s own Software generates as much as 15% operating margin on gross revenues. That’s over $2 billion a year.

So much for breaking even.

  • gprovida

    I think you are confusing distribution channel with what is distributed or content. Apple has costs associated with iTunes operations, in general, as you observe and Apple corroborates these costs are very nearly matched by the “revenue” Apple gathers. Merely having Apple transfer its Software from brick/mortar or shrink wrapped to online does not really change the fundamentals of iTunes store. Implicit in your argument is an assertion that Apple should reduce its 30% margin to lets say 25% based on the profit earned from its own software, I am not sure that is either reasonable or consistent with its claim it is operating break even. In other words, Apple’s Software business should subsidize iTunes content users although Apple is certainly gaining cost advantage by piggy backing on the break even costs of iTunes and avoiding its traditional distribution costs in retail stores and shrink wrapped software.

    A more interesting question that is emerging aka Adobe, Microsoft, Google, gaming industry is a push for subscription services for software. Could or would Apple use the iTunes store infrastructure to support subscription model for its software and if it did would it offer it to App developers, Music Industry, Movie [already does for magazines], and Mac Store Apps?

    Now the deep commingling of the subscription model on top of the iTunes infrastructure is a major transformational and disruptive business model. Is it even possible that Apple could or would leverage this “iTunes” or “Apple” Store to into a larger retail operation? The infrastructure is there, operates internationally, and is on a scale equal to or greater than other “cloud providers” e.g., Microsoft, Google, and even Amazon.

    Is Apple Computer Company morphing into Apple Inc morph into Apple.Retail giant?

    • ronin48

      The article does not suggest including Apple Software in the iTunes Store changes the iTunes store fundamentals.

      You also ignore the fact that as Apple moved their software products from physical to download-only they also dropped the retail prices.

      It is NOT implicit in the argument that that Apple should reduce its 30% “margin” to 25%.

      It is not a 30% “margin” as you say but a 30% agency fee. Big difference.

      It’s not clear what you mean when you use “aka.”

      Adding subscriptions to the iTunes store is not disruptive. The overall model is the same. Subscriptions can be viewed as guaranteed recurring individual sales.

      Please consider these points and re-read Horace’s article.

      • JohnDoey

        It is a common mistake to think that the 30% is profit. If I were to do what Apple does for me for 30%, it would cost me more than 30%. But many people think servers and credit card processing and customer service are free somehow.

    • I’m not making any argument, implied or otherwise. At least I hope not.

      • gprovida

        I think I was reading more of me into your article. I will be more careful next time.

    • I think the way to look at iTunes needs to change. We have been lulled into thinking of it as a retail operation, perhaps even a loss leader. But after hitting $20 billion in sales and 500 million account holders it should be seen as perhaps a platform in its own right.

      • gprovida

        I agree, the infrastructure, business processes, scale, etc. imply a potentially new business area for Apple beyond hardware or support to hardware sales. That is, could, would, or should Apple make another business leap like it did from computers to media players to mobile. It certainly seems to have that potential including its experience and skills in Retail Stores [albeit narrow product domain]. Apple has an international presence that few companies including Amazon and Google can match.

      • Sacto_Joe

        I’d go farther and ask if, as a retail operation, it doesn’t compare rather favorably to, say, Amazon. Note that Amazon’s net incomes have been nearly nonexistent for quite some time, were basically zero three quarters ago, an actual negative two quarters ago, and only 1/2 of a percent last quarter.

        Maybe a better question to ask is – should Apple spin off its iTunes as a separate company? Considering the way the stock market is rewarding Amazon, the reward to present stockholders should be phenomenal!

        MIght make an interesting analysis: Assuming Amazon-like valuation, just how much WOULD iTunes be worth as a separate company?

      • Chaka10

        I agree the analysis to begin to look at the broader iTunes economy as a business/profit center is important (though it’s still small — at least relative to other product segments — and the analysis difficult), because I think Apple is telling us it’s important by having taken the step (now) to reorganize the product categories in its summary data schedule to present this revenue as a single line item, gathering and including amounts that were previously spread across and therefor hidden in other items.

        A commenter elsewhere suggested that “Apps and software … COULD be allocated across their hardware lines…, obliterating the store’s visibility entirely, to very little loss of clarity about how Apple succeeds with customers.” Not sure I agree with the part about clarity, but I do find it meaningful that Apple in fact has moved in the OPPOSITE direction, to add more clarity and focus on the “iTunes, software and services” product category, … and to strip out even “related service and accessory revenue” from iPhone, iPad, Mac and iPod sales to be included in this new iTunes category.

        Personally, I understand this as Apple highlighting the value of its iOS installed base, beyond generating repeat/replacement unit device sales.

      • Mark Jones

        Good thoughts that lead to more questions. Why did Apple rework its reporting categories, presumably, for Wall Street? What was Apple trying to show/emphasize? What were they trying to hide/de-emphasize? (The Greater China line is obvious; what about the rest of the changes.)

        Here are some observations (but no definitive answers):
        – The ASPs and total device sales for iPad, iPhone, iPod become more clear (by removing related hardware accessories sales).
        – Music is de-emphasized (by merging it with software/services), or shown to be just one of multiple types of content for its devices.
        – There is one fewer category; all categories now have almost $2B or more in sales. It seems to show that there are four main product lines and two supporting areas (or are there five or six main product lines? Is the iTunes/software/services line about to grow significantly via expanded services (transactions)?)
        – There is a clear split between supporting hardware (i.e., Apple accessories and 3rd party accessories) and non-hardware (i.e. iTunes, software, services) sales.

        Still not sure what to make of it all given that there were many alternative ways to recategorize.

      • Chaka10

        “Music” includes Apps, books and video, even as historically presented.

      • Mark Jones

        Yup, but until this past quarter, Apple kept calling it “Other Music Related Products and Services” in their financial statements (albeit with a footnote).

      • Chaka10

        In the spirit of continuing to pull on this analysis string, I tried to take a look at the reconciliations between the old product presentation and the new, to see if it shows anything interesting (see attached — welcome, in fact appreciate, double checking). Still not sure that it shows anything significant, except perhaps:

        — iOS software, services and content sales do not seem to grow 1:1 with iOS device sales (on revenue or device basis, even including iPods), but rather slower

        — iOS services and software (ex APP Store) seem very, very small at this point (some assumptions were necessary to get this, mainly that iPod accessories are deminimis .

        — Main point of the product regrouping seems to focus attention on, by aggregating, revenues from content, software and services delivered thru Apple’s eStores.

        I offer this up in case anyone else is interested to see if they see something interesting.

      • I suspect the less-than-linear growth of iOS content sales may be due to two factors: replacement/upgrade devices (which don’t need to buy new content) and family sharing of content across multiple devices — if people add another iOS device to their household, they don’t necessarily need to buy a lot of new content for it.

      • Chaka10

        I think it’s a strong positive that the strong and steady growth of this revenue segment is NOT closely correlated with device unit sales growth, but instead reflects:

        (a) as Walter Milliken points out, the broader installed iOS base (not just new device sales) and

        (b) Apple’s efforts to develop and strengthen its software and services offerings (which, again, I see as a big opportunity with areas for improvement).

        The point is, hopefully, this is much less susceptible to the growth issues from maturing device markets. Perhaps it even benefits, e.g., from increasing transition in many markets from 2G to 3G to 4G.

      • >>>it should be seen as perhaps a platform in its own right.

        Which is what I’ve said Apple should make it since the first year of the iPhone when it had NBC on its neck about the pricing of TV shows and NBC pulled its shows. In addition, there’s been the ridiculous bans (sweatshop game is the most recent). As a true platform, everyone would be able to sell through it on their own — just as Netflix rides on top of Amazon’s cloud service — without censorship/banning by Apple. Apple could keep apps going through it as a security measure (although there are many rejected — “duplicates functionality” or “misuses APIs” — apps in Cydia that are popular sellers and should be given legitimacy).

    • stevesup

      You aren’t unpacking my comments. You are repackaging for your own purposes. Your comments are four times longer than mine. The only thing “implicit” in my comments is that Apple knows it needs a firehose of content to drive sales on hardware. Cheap popular content. Tunes worked fine. Apps, amazingly, did the trick. No one buck shows, then, no iTV. Curiously, Amazon hopes to keep books at ten bucks to subsidize its hardware. No dice. Books will fall to a buck, just like all the other forms of digital media. And Apple of course couldn’t care less.

      • JohnDoey

        A key thing is the media and software profits go to the authors and producers and publishers with Apple, and that is how everybody likes it — even consumers. With Amazon, they want to profit off media and nobody wants that.

  • stevesup

    Consider all apps and software as simply another form of digital media, like games, books, shows, tunes. Apple has developed a brand new, huge, popular media form. Not sure this gets noticed in the list of Apple disruptions. Certainly as significant as its retail success, yes?

    • JohnDoey

      Computer people just say “everybody has apps” and “apps have always existed.” That is a very typical way to minimize Apple’s achievements — by genericizing them. Somebody called Apple’s apps “pop apps” like pop songs and it is appropriate. They made Logic into something that is as easy to install and run as a Web page.

  • Walt French

    Horace wrote, “iTunes…generates as much as 15% operating margin on gross revenues. That’s over $2 billion a year.”

    Am I jaded? That margin is about 3% of their $55bil operating income; the revenues about 3% of all Apple revenues.

    Apps and software ought to correlate pretty much 1:1 with hardware revenue recognition, even if media sales have a longer tail, so that smallish part of the company COULD be allocated across their hardware lines (yes, one song plays on multiple devices), obliterating the store’s visibility entirely, to very little loss of clarity about how Apple succeeds with customers.

    In know you worked thru this for a good reason, but that reason isn’t apparent to me. I looked at Amazon’s $61 billion of retail revenue. …the approximately $0 billion of Verizon and Samsung software/media revenues and Google Play’s unknown revenues, which one report once said Google gave away its share to the customer’s carrier. Pretty sure that there’s no relevant comparison to Dell, HP or any other legacy PC manufacturer, nor to Microsoft’s, IBM’s or other firm’s “store” sales. Maybe, although your cost estimates are loosest of all, it sets guidelines about what it could cost Microsoft or Google to negotiate and maintain consumer stores.

    So what is emerging from this analysis?

    • Sacto_Joe

      Dare I presume that that’s what you have to pay to see?

    • I’m painting a picture. It’s up to the beholder to see something in it. At some point maybe I will see something in it as well.

    • Chaka10

      “… the revenues about 3% of all Apple revenues”

      From the latest 10Q: “Net sales of iTunes, software and services accounted for 7% of the Company’s total net sales for both the first quarter of 2013 and 2012, respectively.”

    • JohnDoey

      Are you saying Apple should make as much from content as they do from hardware?

    • ronin48

      “Apps and software ought to correlate pretty much 1:1 with hardware revenue recognition”

      Says who? What’s your evidence?

    • handleym

      One way to think about it is the cost of providing a comparable ecosystem. IF you assume that a substantial part of the reason people buy Apple is to take part in this eco-system, then competitors will have to duplicate it. Horace’ analysis shows both the scope of such a project, and the fact that you can’t even run it as a profit center.

      Now it is possible to argue that the eco-system is NOT a substantial part of Apple’s success; it was in the iPod days but the world has moved on. Possibly, but my suspicion is that it works more the other way; that Samsung can sell SGS4 and Notes to impoverished countries that don’t know what they’re missing in terms of a content eco-system, but that time is on Apple’s side, that after a few years and experience with what these devices can do, and what Apple offers in terms of content sales vs eg Samsung, Apple will look more appealing.

      If we accept that content matters, then Amazon has a pretty good story (but limited reach; no phone story, at least not yet; and their HW seems primarily interested in being as cheap as possible, not as capable as possible — so targeting the poor, not the rich). I can’t keep up with Google’s content story, but I thought it had limited TV/movie reach even in the US, and far worse outside. Samsung (if they ever go all-in with Tizen) have an even worse story. And MS — well, right now does it even matter what their store does or does not contain?

      I’d like to hear how good a job Apple is doing at making its content offerings broad and acceptable priced world-wide. If I’m in Russia, can I buy the Russian equivalent of Game of Thrones through the store, or is it the same bitching as here in the US? If I’m in New Zealand can I download Shortland Street [local content], or 30 Rock [US content] or do I have a very limited content menu?

      The real issue, I suspect, is that WORLDWIDE we have a collision between customers, who want to watch what they want to watch, without bullshit about launch windows, country restrictions and suchlike; and media companies that refuse to accept this reality. Apple was able to get the music companies to bow to the inevitable fifteen years ago, but doesn’t yet seem to have been able to do so with the TV companies. If anyone can, it would seem to be Apple; but maybe it will take a few more years of ever more worldwide “pirating” of TV content before this happens.

      • Walt French

        These are all interesting points to consider.

        I’m still trying to figure out why the careful parsing of margins, sales, etc., make much difference to a broad-stroke analysis such as, “it is possible to argue that the eco-system is NOT a substantial part of Apple’s success…”. The store leverage factor (how much the store sells hardware instead of the other way around) which neither of us quite know is not contained in the figures Horace works up.

      • Chaka10

        At broad brush strokes, it seems you’re still looking at it as one selling the other, as opposed to, for example, they both sell each other and they both make money.

      • My understanding of the content producer’s country-restricted model is that they try to make most of their profits off the wealthier countries, and then make incremental profits by selling the same content in poorer nations at greatly reduced prices — a “what the market will bear” model. Their argument is, I believe, that if they sold worldwide at the prices they can charge in poorer countries, they would not be profitable at all.

        Not that I’m particularly sympathetic to Big Media, but there is a a real issue here. Perhaps it would be better addressed by time-based mark-downs than by geographic restrictions, though.

    • berult

      iTunes = terra firma.

      The end user = Homo economicus.

      iOS = lingua franca.

      At some point in its evolution, a proto-‘universe’, be it the Universe, a planet or a closed ecosystem, crosses, under ideal conditions, a volition threshold. Through complex interplays between its second and third derivative elements, it just… begins, on its own impetus, to extract value beyond sustenance. Dynamical curation of ‘critical-mass’ scaling teaches the numbers to speak for themselves, …in some dialect of didactical pro-formae.

      Anything over break-even point can be measured in Decibels. iTunes’ autonomous-breathing decibels.

  • heydona

    The other thing that is at play here is that Apple gets to float all
    those gross app revenues. For example I will not get paid for my Feb app
    sales until Apr 4th, 30 to 60 days after Apple collected the money.

    • Chaka10

      … though it’s not like Apple is earning much on all its excess cash …. Doesn’t appear there’s much of a financial arbitrage to the delay in payments

      • heydona

        Sure the net interest rates are minimal, even at Apple scale, but the
        float would cover operating costs, freeing other money up for

      • Chaka10

        Sorry, don’t really mean to be contentious with this (in fact or in appearance), but Apple has $137 bb cash on its balance sheet (last reported), and that doesn’t include this”float”. Not a lot of need to free up any money for investments. I’m not suggesting the process can’t or shouldn’t be improved to pay developers sooner, but I don’t think the delay is for financial reasons benefitting Apple.

        [Corrected mm to bb]

      • M

        Have to disagree,.. The reality of how business works is cash flow does matter,.. Tremendously. Apple probably does get paid immediately by the credit card companies so yes that float contributes to the minus 57 days or whatever it is currently. What it means is they can always pay bills with new money flowing in faster than the money flowing out.

        Cash flow negative businesses die….. See Enron.

        Apple is the opposite,.. Cash flow generally exceeds “earnings”.

        The delay between receipt and payment is a reasonable term which benefits Apple and provides time to deal with charge backs,.. Which do happen.

      • Chaka10

        Candidly, I don’t know what you’re disagreeing with in my post.

        “The reality of how business works is cash flow does matter.” — Yes agree, very much so, and nothing in my post says otherwise.

        “[The payment schedule means Apple] can always pay bills with new money flowing in faster than the money flowing out.” — Yes agree, the payment schedule doesn’t not have a negative impact on Apple’s cash flow, and again nothing in my post says or suggests otherwise.

        As i say in my post, I just “don’t think the delay is FOR financial reasons benefitting Apple”, ie, that Apple is intentionally delaying in order to gain a financial advantage, ie make money on, the float, and I cite Apple’s large cash on hand and low yield on it as my reasons for believing as I do. That’s all. Apple may have good operational reasons (eg, to deal with charge backs, as you mention). I say that I DON’T KNOW whether the process can be improved to shorten the delay, but that just means I have no first hand knowledge on that and am not making any arguments in that regard… Do YOU know something first hand in this regard?

        This is not important, I’m happy to drop my points.

      • handleym

        Cash flow matters in terms of keeping the business alive, NOT in terms of making money.
        Float might have meant something in the days of 6% interest rates. But 30 days at .5% is pathetic, and Apple is not a hand-to-mouth company that needs the money to juggle as it decides which bill to pay today.

        I think obsessing about the supposed value of the float is ridiculous; the float exists because it’s pretty much standard practice in business, not because it’s making money for Apple.

      • Chaka10

        Yes, exactly. That’s the point I was trying to make too — Apple is very unlikely to be taking advantage of the float to make money (which I took, I hope not mistakenly, as the original suggestion by heydona’s post)….

    • jbwales

      No. You get paid 30 to 60 days after the credit card company applied the charge to the purchaser’s account. The credit card company has to collect the money from the purchaser, which typically takes ten to forty days, and is most unlikely to pay Apple until they themselves have been paid.

      • Sacto_Joe

        Good point! But still, that money’s in the system. I’d bet somebody is making good use of it during the delay, although clearly not Apple!

  • Pingback: iTunes estimated to rake in in $2B per year, thanks to Apple’s software division | Mac4Schools()

  • There are several additional possibilities that Apple could use to exploit the ecosystem now called iTunes Store, Book Store, App Store and Mac App Store. Others have mentioned that Apple could act as an agent to sell hard goods (much as Amazon does).

    In addition Apple could sell (or resell):
    • Telephone Voice And Data Services
    • iDevice Financing (especially iPhones)
    * Big Ticket Item Sales and/or Financing (Major Appliances, Automobiles. etc.)
    • Retail Management Services (both web and stick & stucco)
    • Point Of Sale and Transaction Processing Services

    The latter 2 would be similar to what Square and complementary apps provide for restaurants, boutiques, Mom & Pop Stores, etc.

    Apple could provide a package that includes everything (from menu design, inventory mgmt, credit card processing, fulfillment) — or Apple could just provide the integrated infrastructure and let 3rd parties develop the apps, web sites, etc.

    The potential, that is exciting, is that this would drive sales of iDevices, back-room Macs, Cloud Services and iTunes Services themselves.

    • JohnDoey

      I cannot wait until my iPad and iPhone data is billed through iTunes and I no longer need to interact with AT&T or another similar bozo. That is by far my most serious iPhone-related complaint.

    • Chaka10

      Interesting to think about for sure. I remain somewhat skeptical. To quote Horace in an earlier analysis — “No content (virtual or otherwise) can command a significant margin because distribution itself is commoditized (i.e. nobody can be a ‘better distributor’ or improve meaningfully the value created.) If you are selling someone else’s work all you can do to grow is to sell more of it.” (Jan ’13, A More Complete Picture of the iTunes Economy).

      The eCommerce facilitation business is crowded, with Amazon and eBay (yes, can buy eBay…).

      Seems perhaps the most obvious high margin move well within Apple’s existing strengths is to develop and drive Apple’s own software and services to the large and growing iOS and OSX installed base, leveraging the iTunes platform, with third party content sales, while low margin, still useful to share/spread OpEx and enhance value of devices.

      There a lot to be done here, in my view. The Apple software offerings (Pages, Numbers), while elegant in many ways, remain very basic, even rudimentary, in important functionality.

      • Chaka10

        iCloud still sucks in many ways (being objective).

      • handleym

        It is important not to let your desires cloud your judgement. You may wish that iCloud were more like DropBox in how it worked, or didn’t silo stored documents as it does, or matched more songs, or whatever, but those represent policy, not mechanism.

        What matters for the future is the strength of the underlying technical capabilities Apple has in iCloud, and the extent to which the service works properly (eg in terms of security, reliability, ability to program it,and so on). I don’t think we have any reason to believe that iCloud is, in these respects, any better or any worse than the competitors. Whether it’s Amazon, MS, Google, or Facebook, everyone seems to have had about the same level of occasional (but not disastrous) security mishaps, data loss, and breaks in service.

        It certainly would be immensely interesting to have a TECHNICAL comparison of the five top cloud services (most especially how easily they can be programmed and reconfigured) but I’m unaware of anything even close to that.

      • Chaka10

        I just meant that it can and should be better, and I don’t mean that from any technical perspective, but from that of a user — which has always been what Apple is all about. This is not meant as an attack on Apple.

      • I hear a great deal of criticism of iCloud. I hear no data about its performance. You said you are being objective. Can you cite data describing the performance issues (relative and absolute measures ideally)?

        For the record, almost all that you see on this site is produced with iCloud stored data. All my files are stored in iCloud and I use it to make sure I can access and work on it from multiple computers and devices. I have had some minor issues but overall I have not had as much trouble as with Google docs which I also used briefly.

      • Chaka10

        As I mentioned, my comments regarding iCloud are not from a technical perspective, but from that of a user. I used the word “objective” more to suggest “non-Apple partisanship” than to imply any underlying hard data or technical analysis. I especially did not mean it in relative terms to other offerings.

        Having said that, I believe the simple perspective of a user’s experience is crucial, maybe even traditionally the defining standard, for Apple products….

        For the same reasons as you mention, I also use iCloud as my main cloud storage service (and MobileMe before that — in fact, I have a “” email account…). My use of Windows PCs has declined, now to a minimum, including in the enterprise environment (and it’s a fairly mainstream, document intensive environment). The point for this discussion is, I use iCloud almost exclusively with Apple computing devices, MacBook Pro, iPad, iPhone. Even so, I presently do not find it seamless, as I would like to expect from Apple and Apple products working together.

        Perhaps not surprising, my main complaint is that it does not have the simple functionality of being able to drag a document in my OSX (or Windows) environment to iCloud and then being able to find it on my iPad and open it with any compatible app, or to open any compatible app and find the file (I’m reminded vaguely of a Steve Jobs story about scratching out a complicated design diagram to instead draw a simple drag and drop box). What if I need to find an old file, but only have a vague recollection of the name or the subject (enough for a few key words), but don’t recall if I have it in Word, Pages, PowerPoint, PDF for other format — how do I find it on iCloud? That to me, as a user, is the most basic functionalities required of any filing/storage system, especially one that seeks to facilitate work across devices.

        I would give a specific example in my regular usage — I use the GoodReader app a lot on my iPad. But, in order to save a PDF document on my MacBook onto iCloud, so I can later access it on my iPad using GoodReader, I presently have to either (a) email it as an attachment (and then get it off of email using my iPad) or (b) go through several steps to reveal the HIDDEN iCloud files in Finder, and then dragging my PDF file to the GoodReader folder (YES, THERE ARE FOLDERS ON ICLOUD, you just can’t see them easily). I can also load my PDF file directly onto GoodReader by attaching my iPad to my MacBook via USB, but even that is clunky, and in any case that bypasses iCloud…. The biggest indictment, in my view (again as a user), is that even these work-arounds are NOT AT ALL INTUITIVE, and required much annoying research to uncover.

        I live with and use iCloud notwithstanding these complaints, bc the overall experience and convenience of my Apple environment is superior, but that’s not to say it cannot and should not be better. At this point, it feels like this line of discussion has pushed me to be (or appear) more aggressively critical of Apple than I originally intended. Again, I see this as an opportunity for Apple. I believe the iPad has potential for productivity (not just content consumption) that is under appreciated — I prepared this longish response, as well as all of my other posts this weekend (including simple spreadsheets), entirely on my iPad, using a combination of dictation and a Bluetooth keyboard. But, that potential and opportunity will not be fully realized (or at least won’t be fully seized by Apple) until Apple improves its iCloud, iWork and other software and services (the track changes function was only recently added, and there’s still no highlighting function, Pages — very basic stuff).

        Coming full circle, I believe Apple realizes this and perhaps that realization is in part behind Apple’s recent emphasis of this product line. No hard data, yet, but I think it’s important to begin focusing on it — bc Apple is telling us so.

      • Nice discussion of the shortcomings of iCloud.

        I’ve been thinking that Apple may eventually produce some kind of data sharing API that involves agented transfers of data between compatible applications. My own notion would be some kind of tag-based scheme where access permission sets could be associated with tags, as well as content types and content topics. Some kind of “hub” like the photo library in iOS/OS X would then mediate access.

        Essentially this would be a wholesale replacement of the filesystem paradigm, which Apple is certainly moving towards. However, this is a *huge* project to make work both correctly and intuitively. I think Apple has been taking baby steps so far, with the photo library and iCloud as visible bits along the way. It wouldn’t surprise me if we saw a tipping point soon, though.

      • Walter,

        I seem to be tagging your posts, today.

        Apple “kinda” has shown a file system replacement, augmentation really, in Final Cut Pro X.

        FCPX interfaces the standard file system to import and share data,

        However, within FCPX, everything is based on metadata stored within an SQLite database. Imported metadata can include:
        • file names from the file system
        • folder names file system
        • file metadata
        • camera metadata

        During Import, FCPX can optionally scan the clips and generate metadata for:
        • scene type (close-up, mid-range, long shots)
        • number of people in the scene
        • scene ligting and color balance
        • camera movement/shutter problems
        • sound problems

        After import, the user can assign metadata to clips (or portions of clips) based on:
        • keywords
        • comments
        • favorites
        • rejects
        • to dos
        • smart collections

        This metadata creation is automatic where it can be or very easily created with manual assistance.

        Here is a short video that touches on some of the power of FCPX metadata. It deals with taking the somewhat cryptic file names generated by the camera and using FCPX to generate names that are meaningful to the editor (user) based on the metadata available.

        I think that this implementation may signal Apple’s thinking of how to migrate from the file system of today to the “whatever” of the future.

        This only scratches the surface — for more info, surf for “FCPX metadata”.

      • Chaka10

        If I may impose with a question — where has iCloud revenues been recognized BEFORE the 1Q13reorganization of the product lines, eg, within (a) IPhone/iPad/Mac sales (as related services or software), (b) “Other music related products and service” (as part of iTunes), or (c) “Software, service and other sales” ( but that seems like only Mac related from the description — “revenue from sales of Apple-branded and third-party Mac software, and services”). Reason I ask is, depending on where it is reported in the segment data information, it may or may not be possible to get a sense of how much it was (in 1Q13 and F2012 for example) by looking at the reconciliation from the old product reporting categories to the new. Thanks

    • Chaka10

      On reflection, I’m not sure the point below about thin margins on distribution of 3rd party content applies to 3rd party developer Apps.

    • Mark Jones

      Apple did get several US patents on virtual shopping malls (see PatentlyApple com). And another one that lets a consumer, when placing a phone call, select from among multiple competing carriers.

      Caveat: Apple gets many patents that never appear in an Apple product, so best to view patents as just signs that Apple had some interest in thinking about an area.

  • I’m surprised content margin is only 1-2%. That is shockingly low. Based on this analysis, iTunes (less the Software components) is still basically a break-even business. Combining Software with iTunes in one line-item of the income statement does not make either one a better business

    • JohnDoey

      The fact that Apple’s content margin is that low is why they have so much content. The content margin is going to the authors, producers, and publishers. That is how we like it. That is how consumers like it. When a consumer buys a Nine Inch Nails album via iTunes, they expect to be supporting Nine Inch Nails with that purchase, not Apple. Apple makes money on the devices, and consumers do not begrudge them that.

      What Amazon is attempting to do is looked at as theft by content producers.

    • Selling someone else’s content adds no value. Why should we expect it to accrue profits? The zero margin for content retail is a universal condition for all market participants. To rectify this situation retailers are becoming producers. See what happened with HBO and is happening with Amazon and Google (YouTube). Value chains evolve and the evolution is from distribution to production. Apple happens to follow this in software and we’ll have to wait and see if it will happen in other media.

      • Chaka10

        Would you agree that the resale of 3rd party developer apps is a possible exception?

      • No, I would not agree. It’s especially important to signal to app developers that the platform owner does not tax their revenues.

      • Chaka10

        Hmmm. The signaling consideration also occurred to me, but then why aggregate the “barely any margin” 3rd party content/app product line with the high margin Apple proprietary software/services line. Doesn’t that risk blurring the profit/no-profit distinction and confusing the signal? E.g., from a quick read of an analysis like this one (“So Long Break Even”) and Philip Elmer-DeWitt’s reporting of the analysis today (“A ‘break even’ line item is suddenly generating more than $2 billion in profits per year”).

        Is there another potential legit perspective of 3rd party apps – that any profits Apple gains from distributing 3rd party developer apps simply represent its appropriately monetizing its iOS/AppStore, etc. platform, in a similar fashion to Cable (they distribute 3rd party content quite profitably) and Visa/Master Card (monetizing their payments networks)?

  • My speculation here mostly rests on the fact that the ITunes store is an under-the-radar transactional platform of large scale. Right now, those transactions are limited primarily to Apple’s own products, or ones it operates as a distributor for, but it’s also acting instead as a sales agent for apps and books. And it’s extended that to physical goods in its own stores.

    I strongly suspect Apple is at least toying with a system level concept for general secure transactions based on 3-factor identification: “what you have” (iPhone), “what you know” (PIN), and “who you are” (the rumored new fingerprint sensor in the rumored new iPhone 5S, though camera- or voice-based techniques might also be possible). With all those pieces in place, plus their existing iTunes infrastructure, Apple would be in a position to totally disrupt point-of-sale payments with a faster, more convenient, and more secure model than existing credit cards or even NFC-enabled cards.

    And then there’s Walmart’s “Scan and Go” experiment, which is an interesting parallel development that happens to be missing the financial piece — if Apple opened up an app API using iTunes for secure physical financial transactions, I wonder what it would do for bricks and mortar stores….

    One of the main sticking points that I see here is that Apple still uses traditional credit card services for the actual billing, which means that the transaction fee rake-off mostly goes to them. But does Apple really still need them…?

    The other problem is whether Apple would get into sticky regulatory territory by getting to close to banking services. Perhaps they can avoid that if they stick to being an agent. Or maybe strike a deal with (or buy) PayPal, which has got to be viewing Amazon with considerable alarm these days.

    It is very clear, though, that Apple has a really impressive platform here which mostly goes unnoticed and unremarked. And there are plenty of opportunities for them to expand its scope.

    • Secular_Investor

      I agree. Apple is exceptionally well positioned to disrupt ecommerce. It could be a real game changer for Apple.

      In their excellent posts Walter Millikin (above) and Dick Applebaum (below) have identified numerous factors which combine to give Apple exceptional advantages and opportunities.

      Two of these appear to be unique to Apple and very difficult, if not impossible, for the competition to replicate or catch up i.e. they create a strong moat.

      1) Biometric security with the AuthenTec chips. These should provide high levels of security combined with exceptional ease of use, both to secure the use of devices as well as to carry out transactions without the need to remember and enter passwords and PINS etc. They would also probably significantly accelerate sales of iPhones, iTouches, iPads and Macs, providing a strong selling point for users to upgrade their existing devices and attract more users to the ultra secure, easy to use Apple system.

      2) 500m iTunes account holders is an incredibly valuable and fast growing asset. None of their competitors have anything like as many. They are like a massive loyalty program, which gives Apple a huge head start in rolling out ecommerce. All surveys show that Apple users are more affluent, better educated, use the internet more, travel more, click on adverts more and purchase more over the internet. In short they are very desirable target customers for every type of retail and service provider both online and in bricks and mortar outlets.

      Finally there is one other service that Apple provides which probably ought to be added to the Horace’s chart above: iCloud.

      According to Strategy analytics iTones Match/iCloud is already the market leader with 27% share. That is bigger than both Amazon Cloud Drive (15%) and Google Drive (10%) combined. It is also nearly ten times as large as Samsung’s Music Hub.

      Google AppleInsider headline
      “Apple’s iCloud is most-used cloud service in the US, beating Dropbox & Amazon”

      It would be interesting if Horace could tell us how large iCloud is in terms of revenue and how fast it is growing etc.

      • There’s a less obvious, but important, advantage Apple also has here — secure systems generally require physical security of the authentication device. The iPhone is a bit weak here by true security standards (which require anti-tamper for really high security), but the requirement that all applications be signed by Apple to be allowed to execute makes it much more difficult to tamper with the authentication infrastructure and, say, just override the fingerprint sensor API to indicate that the check has passed.

        On Android, I’m not sure this kind of authentication spoofing can be easily prevented, since the app security model is much weaker due to the support for side-loading and ease of rooting the device. I’m not sure what jail breaking does to iPhones here, though apparently there are some ways of detecting a jailbroken device in a running app.

        Apple would probably have to spend some more effort tightening up security to make the device truly secure as an authenticator, but even as is, it’s *far* better than the current credit card system.

      • JohnDoey

        Which mobile is more secure than iPhone?

      • claimchowder

        The discussion implies that Apple is now about able to attack the financial services industry. I agree.
        And that might actually help explain two recent conundrums:
        1. Apple’s cash hoarding. They need to be independent of the banking sector in order to make it all the way without being strapped for cash
        2. The depressed valuation of AAPL. The financial sector sees the threat and is fighting back.

        Am I making sense?

      • I don’t think the general financial sector is at all threatened by Apple, just the transaction intermediaries: Visa, Mastercard, and Discover, and possibly PayPal.

        I see the cash hoarding as being a lot more connected to the “problem” of generating more cash than they can put to good use, more than anything. Fortunately they aren’t letting it burn a hole in their pocket (stupid acquisitions being the norm), and they’re somewhat hindered in returning it to shareholders by the US tax situation. I don’t think it’s to be independent of the banks — Apple hasn’t borrowed money for a long time. I do think they prefer to save up cash rather than borrow it, though.

      • zato

        “I don’t think the general financial sector is at all threatened by Apple…”

        I disagree. There is plenty of evidence that claimchowder’s assertion about the financial sector pushing-back against Apple is real.

        The financial sector is at war with the government, and the whole country. The war won’t end until they get what they want. For some reason I don’t understand, they see Apple high up on an enemies list.

      • Steve

        I agree the inter mediaries are more immediately concerned, however, all of those Visa/MC accounts are issued by financial institutions. The intermediaries make their profit form the transaction charges, the institutions from the resulting interest, or advance fees. To think that the financial sector as a whole isn’t concerned -and wouldn’t “go to war” over their goose that lays that lays golden eggs- would be a mistake.

      • I wouldn’t expect Apple will want to get into the loan business, which is where the banks, as you point out, get their profits from credit cards. I would only expect them to cut out the intermediaries, since those are the ones that make it difficult to actually buy things.

        I see Apple’s motivation in providing a transaction platform as mostly to make it simpler and safer to buy things and services (using iDevices, of course) than to go through all the pain of dragging out a credit card and signing stuff.

        The biggest drawback I can see to this is that Apple would have to settle for transaction fees in the same ballpark as the credit card services, which are in the 1% neighborhood. That’s a lot lower than the 30% cut they get for facilitating transactions now (though they also provide hosting services for that cut). And that would require them to bypass credit card charging and go straight to the bank accounts via the clearinghouse, which is something they don’t do now (though PayPal does).

      • GogogoStopSTOP

        Brilliant observation. Not to say it would or can come true, but think about Jobs letting the rumor out that Apple would revolutionize TV, but really be working on a completely new & disruptive purchasing & banking system.

    • Klasse

      The 3 factor identification thing you suggest is great and makes perfect sense. However, it is not enough to disrupt payments. Visa and MasterCard would not be onboard as the 3-factor solution you propose lies outside of their rules framework. Therefore, apple would have to build acceptance of their new payment system with very many merchants (intstalled base of POS terminals is 50m globally). Also, It is not straightforward to leverage the iTunes infrastructure – Apple has to pay transaction fees every time an iTunes acct is charged and can therefore easily end up loosing money.

      • JohnDoey

        Apple is a retailer and also has a Point-Of-Sale system that is licensed to Target and other retailers. iOS devices are the fastest-growing POS technology. It is very common to see a giant Dell POS replaced by an iPad POS or an iPod touch being carried by salespeople. So they are well into setting up infrastructure for iTunes payments.

      • handleym

        This is interesting. What I’d love to see Apple do here — given that no-one else seems to have the competence to do it — is provide in-store navigation.

        Basically I arrive at the store, my phone automatically connects to the WiFi system, and a “local navigation” icon appears in the menu bar. I can click on that icon to get the “Safeway #237” app which will offer things like a map of the store and a way to find where, say, mothballs, are in the store.
        We have bits and pieces of this today (most notably apps providing Mall maps) but anyone who’s used any of these knows how awful they are, and they don’t offer IN-STORE navigation or merchandise finding capabilities.

      • jointdr

        Funny you should mention this ! Appleis reported to have just bought an ‘indoor GPS’ company for $ 20 mil today .

      • I was having similar thoughts — every time I’m in an unfamiliar store, I wish for such a thing. And as jointdr pointed out below, Apple just acquired a company in this space.

        I’m not sure how Apple would use this technology — it needs adoption (and ongoing support in updating information) by the stores, and probably requires hardware deployment. Since Apple’s main focus is consumers, not business, it’s a bit puzzling.

        I can see how it would benefit Apple’s regular customers by providing more useful iServices, but the apparent need for third-party adoption makes it problematic. About the only way I could see it working is if Apple rolls out a business solution for medium to large stores for POS and customer service — and that’s fairly far from Apple’s competence zone (other than running their own stores).

        I can see Apple building a support infrastructure for such services into iOS, and letting stores build their own apps. In that case, they might just be providing relevant hardware (iPads for POS, WiFi node) with support for the software infrastructure. This would be much easier for them, but probably result in slower adoption.

        Another possibility would be teaming with an existing POS provider like NCR, but it seems that would run counter to their desire not to rely overmuch on third parties.

      • Walter – Very good points!

        It may be more easily attainable than you describe:

        I posted this to another forum:

        Have a look at this video — it is difficult to watch, but explains the process:

        A demonstration starts at about 24 minutes in — but the whole video is informative.


        It is not actually communicating over WiFi! — Rather it is sensing the amalgamation of all the WiFi noise * (signals) in an area to create a fingerprint of a pinpointed location (within 8.2 feet).That fingerprint is unique (adjusted for time, WiFi activity, etc.). Then, the fingerprint is sent as a query to a [Apple] server to determine:

        1) where you are
        2) what’s around you
        3) where you are likely to go

        As a response, your iDevice receives a fingerprint map ** of the area. Then as you move about, the iDevice uses the compass, accelerometer and magnometer on the device to determine where you are (or anticipate where you are going) — with no further communication with the server (tracking you).

        * The noise can include other noise such as a magnetic field fingerprint in addition to the WiFi fingerprint to refine the position.

        ** The generation of fingerprint maps can be done manually (someone walking the walk) or crowd sourced (someone, at some point in time, has walked that segment of the fingerprint map) — or, for secure areas, the fingerprint map can be unavailable.

        You don’t even need a physical diagram/blueprint of the area — from aggregated traversal data, the servers can determine where the walls and doorways are — and generate a diagram of the area.

        This is pretty hot stuff!


        As to your comments about store layouts and hardware requirement by the stores… A store could opt in and upload a diagram of their store and capture a “noise” fingerprint at, say, the front door — then walk the store. If/when the store layout, or product placement, changed — it would be a simple matter to update with an iPad or laptop.

        The very end of the video (above), indicates that a store finder within a mall could be generated using the camera on the mobile device — a picture containing a “Big Red S” indicates a Safeway store. Combined with other fingerprint and camera data it would be easy to map the mall (or, again, it could be crowd sourced).

        The more I think about this, I realize its much more than a fingerprint map — its Location DNA

      • The fingerprint method sounds interesting in theory, but I can see a lot of problems in practice, mostly having to do with the issue that the radio background isn’t really all that constant these days, with all the mobile devices. There are also a lot of small-scale power fluctuations having to do with how the waves self-interfere when bouncing around inside the buildings — a lot like the problems with cell-phone reception deep in cities, where moving a couple feet can greatly change your signal.

        Still, if they can figure out a way to keep extract useful signal and shut out the transient noise, it’s a cool idea.

        A museum in New York City (I think it’s the American Museum of NAtural History) had some kind of WiFi based locator app when I was there with my daughter a couple years ago, but I think it was based on which SSIDs in their network the app could see from your location. It worked fairly decently, but not at the fine-grained level you’d need in a store layout to know which aisle you were in.

        Frankly, for stores, a better solution might be to simply plant small Bluetooth beacons along the shelves and track which of those are visible.

      • jamesrgrinter

        “I think it was based on which SSIDs in their network the app could see from your location.” — which is what the iPhone, and other devices, already do when using WiFi signals to determine where you probably are. That’s the business that Skyhook were in, and then Apple and Google both built up their own databases for.

        The company they’ve acquired seems to have been working on taking the analysis to the next level.

      • The system I was talking about is much higher resolution than the Skyhook-style location data, but yes, the techniques are similar.

      • ytpete

        The advantage for retailers might come in tracking / analytics of physical customers. Who wouldn’t love to get real-time info on the purchase history, search goals, etc. of the customers currently standing in the store? Or data about the walking paths of customers through the various aisles tied to the actual items they ultimately bought? Apple Stores already do some of this, and Square is moving into the same space with things like their Starbucks deal.

      • The way I read Apple’s privacy strategies, I don’t think they’re likely to offer “always on” location tracking analytics. That would have two downsides, one for customer privacy and one for battery life. What I would expect would be the ability to query the store server for item location data, and integration into Apple Maps to help the customer navigate the store. Additional API functions would support purchase (barcode scans and payment transactions). Purchase history, of course, is something the stores often track now, and I doubt Apple would try to block that — it would be hard to do so, anyway.

        There might be some kind of opt-in for a store’s app to actively track locations, like is done now for GPS location data in apps. That would clearly be useful to the store, but I don’t see Apple enabling it by default. However, they don’t seem to mind users opting to make their location data available (e.g., they approved Google’s new mapping app). But they apparently didn’t want to hand that data over to Google by default, according to the news reports of the maps negotiations.

      • NoName
    • Your point about Apple paying transaction fees to the credit card companies is interesting…

      I have noticed that Apple will sometimes delay posting a transaction for a day or several days – and that several different purchases over that time period will be combined into a single transaction resulting in one transaction fee.

      So, Apple is certainly aware of, and involved in minimizing transaction fees to the credit card companies.

    • handleym

      Regarding banking regulations; an interesting question is the extent to which Apple is constrained here by the laws, for better or worse, of the US.

      If, for example, Apple created a *Canadian* wholly-owned subsidiary financial services company (Apple’s equivalent of GE-Capital) and routed all transactions through that, what’s to stop them? This financial services company would have to have some interaction with Visa and Mastercard, at first; but over time that interaction would diminish.
      Gift Cards are the first to break free, but then they could set up direct wire from people’s bank accounts rather than using credit cards, as PayPal does, perhaps in return for a slight discount on items purchased — or some equivalent, like purchases done with the bank account earn “points”, and you can redeem 100 points for an iTune song.
      Extend this further and partner with people like Vanguard (who have Money Market accts, but no interest in maintaining the way banks currently do business) and you have yet another way to get money from customers to Apple without Visa getting a cut.

      Point is — technically there are ways to do this AND I don’t really see how whatever complaints people may make about US banking laws are relevant. I’m not a Libertarian, and I’m not going to go on about how Apple should place their Financial Services subsidiary in some “entrepreneur-friendly” country (like Cyprus?); but it does seem like in the modern age Apple has substantial flexibility to place such a subsidiary wherever makes the most sense, rather than having to place it in the US.

      • Chaka10

        Assuming the legal regs can be handled, do we have any reason to believe Apple would be any good at extending credit? That’s just a different way to invest its cash (in consumer loans or equipment financing instruments). Why would that give investors any great comfort?

      • handleym

        Nothing I suggested involved Apple extending credit; it all worked the other way with people giving Apple their money either before they bought something or at the time of purchase. What interests me is Apple providing a way around the fees credit cards demand, even in situations where the card is used simply as a PAYMENT mechanism, not as a credit mechanism.

        I have no comments on the idea of Apple extending credit; but I thought they already did for Mac purchases, and don’t seem to have lost any money doing so.

      • Chaka10

        Sorry, I may have misunderstood and perhaps been overly focused on the reference to GE Capital, which is in the business of extending credit, as with its rough counterparts in the auto finance arms of the automakers, which got in pretty big trouble in the Great Recession. eBay’s is primarily in the business of payments facilitation, not extending credit, but I believe it’s getting into that too — carefully. It’s mainly in the latter where the bank regs come in.

    • SockRolid

      Agree completely. I’d add that this kind of transactional revenue will be essential to Apple’s future. Eventually, Apple will need to increase their software and services revenue. In 15 or 20 years, hardware pricing may have dropped so much that even Apple’s current margins won’t sustain them. (Historically, anyway, consumer electronics and computer technology always come down in price, along with margins.)

      The iTunes Store + general retail transactions, iAd in iOS, Eyes Free integration in cars, Apple’s inevitable television solution, and other totally new services could produce huge revenue in the future. Apple has developed a robust infrastructure for their OSes and devices, with 500 million active accounts, and they could create infrastructures for other industries as well.

    • GreenPirate

      You don’t think is had to do with having infinite inventory? Being able to price, market and sell access to data as “products” means uncapped revenue for a relatively low overhead. This is NOT disruptive. This is milking the tail end of a dying business model.

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  • Curmudgeon

    Really wonder if iTunes could be repurposed to disrupt Amazon as a payment platform for any retailer. I imagine a local shop putting up an online presence where customers can shop inventory through an app, purchase it using your AppleID, and drive to pick it up on your errands or have it shipped.

    I see people all the time choose to upload photos to a local film processor to have picked up rather than shipped back.

    • JohnDoey

      Local shops are putting in iPads to replace their Intel PC -based point-of-sale systems. That is the biggest trend in point-of-sale. It is not a big leap from there to paying with your iTunes account.

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  • ITunes specie?

  • There are 2 adults and 3 teenagers in our household.

    We all have individual iPads and iPhones, various iPods and share 3 iMacs and 2 AppleTVs.

    We are great consumers of digital content — mainly iTunes Store purchases and Netflix.

    The 5-device sharing of iTunes (Music, Books, Apps) digital content is ideal for our household.

    For example, we try to spend several hours per week group reading, aloud, from the same iBook on each of our iPads.

    But, I want to describe a recent series of transactions… Take it as a given that we spend $50-$100 per month on iTunes content from the various stores.

    Last Sunday, I noticed that the BestBuy online store was selling $100 iTunes Gift Cards for $80 — a 20% discount.

    I wanted to buy 2 cards, but only 1 was allowed per account — so my daughter bought the 2nd card on her account.

    Both transactions were charged to my credit card (more on this later).

    The total cost of each order was $80 — no tax or charge for standard shipping,

    The gift cards arrived (by UPS/USPS mail) Thursday and were immediately added to the iTunes account — giving us $200 worth of digital purchasing power at a cost of $160.

    Here’s where it starts to get interesting:

    The credit card used for the $160 purchase is paid in full each month — giving a month of float at no charge.

    The credit card gives a [minimum] 2% rebate on all purchases made with the card — so, I get, at least, a $3.20 rebate.

    I now have received a 22% discount — buying $200 purchasing power for $156.80.

    When I buy digital content from the iTunes store there are no additional charges — no taxes, no shipping/download fee, transaction fee — no nothing, just the price of the content.

    The same credit card is the one registered with the iTunes Account, so any purchase made without a gift card credit are subject to the same float and rebate.

    Not too shabby…

    What if I could have :
    • purchased the discounted iTunes Gift Card with immrdiate electronic delivery
    • purchased [discounted or non-discounted] gift cards in larger denominations

    And, what if I could use my iTunes Store Account to :
    • purchase non-digital content from the Apple Stores or other 3rd-party stores, restaurants, etc.
    • digitally purchase and digitally gift iTunes Gift Cards to others
    • tithe or give to charity
    • pay bills such cable or cell phone bills
    • finance purchases (like an unlocked iPhone)
    • set up an iTunes “Savings Account” where others could deposit to the account

    My 17-year-old granddaughter is saving to buy a car… wouldn’t it be great if she could send friends and family a link to painlessly deposit to her iTunes “Savings Account” — in lieu of (or addition to)bifts for birthday, Christmas, Guy Fawkes Day, Easter, graduation…

    The three kids all have savings accounts, but the minimum is so high and the unterest so low as to discourage savings — more of a lockbox discipline than an investment.


    • Mark Jones

      Apple maximizes its profit when people buy non-discounted iTunes Gift Cards from the Apple Store with cash, and then don’t use it for many months. But that probably doesn’t happen too often.

      When you bought the Gift Card from Best Buy, Best Buy and the credit card company each got a percentage as a fee, while Apple also potentially got a float (and avoided multiple small transactions that trigger higher credit card fees). It was a great deal for you. I’ve seen 25% off though rarer now, and up to 40% off on Black Friday.

    • Chaka10

      Very interesting. Thank you. How representative do you think you and your family are among Apple’s customer base, and how important do you think this sort of (I presume high end) customers are to Apple’s business? I’ve been observing lately, just on the street and at Apple stores, ie, admittedly purely anecdotally (and at great risk of type casting), that Apple seems to have been expanding down the demographic chain.

      • @Chaka “How representative do you think you and your family are among Apple’s customer base, and how important do you think this sort of (I presume high end) customers are to Apple’s business?”

        Good question… We are upper middle-class, but with a middle-class ethic. I bought my first Apple product in 1978 and none of our family has ever bought a non-Apple computer (several received as gifts remain unused). Until late last year, only the 2 adults had iPhones — the kids had feature phones and hand-me-down SIM-less iPhones used as iPods.

        We decided to buy the kids iPhones because:
        • the kids would be locatable with Find Friends and Find My iPhone (they went to 3 different schools and all play soccer)
        • As a non-expendible device [we thought] the kids would take better care of it
        • Because of Remote Wipe/Lock and Find My iPhone the devices would be of little value to thieves
        • iTunes content is available to all, concurrently at no extra charge

        I gifted 64 GB WiFi iPads to the kids in lieu of shared TVs, Macs, New Game Consoles, etc.

        This has worked out quite well as the kids can do the bulk of their research and homework on the iPads — only needing access to the shared iMacs for capabilities like Photoshop, Final Cut Pro X, etc. — N/A on the iPads… and games and videos, of course.

        The local school district is behind the times and will not allow “the use of any electronic device in the classroom”.

        I don’t know where we fit in the profile of Apple’s customers, except the majority of the adults’ and kids’ friends have iPhones (and aspire to iPads).

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  • Here’s an interesting link that may indicate Apple plans to exploit the social aspect of mapping — and, more on topic, the social aspect of physical shopping integrated with virtual online shopping:

    One thing that is often overlooked in physical and virtual store design is the social aspect — where your friends are, what they are looking at…

    AIR, Apple already has, or has applied for, several patents related to this.

  • Here’s an interesting link that may indicate Apple plans to exploit the social aspect of mapping — and, more on topic, the social aspect of physical shopping integrated with virtual online shopping:

    One thing that is often overlooked in physical and virtual store design is the social aspect — where your friends are, what they are looking at…

    AIR, Apple already has, or has applied for, several patents related to this.

  • yetanothersteve

    Apple might be better off long term cutting its take in the iTunes store to put more pressure on AMZN and GOOG who don’t have their volumes. Even $2 B /year isn’t that much to Apple… and we’re just talking about the iTunes side, not the AAPL labelled software side.

    Moreover the profits Apple makes from having great margins on its devices because of its unmatched ecosystem will always dwarf its iTunes store profits.

    Unless, that is, Apple wants to seriously change its business model to cut its hardware margins…. And given how little Wall Street currently values Apple’s profits (compared to, say, AMZN’s profitless dominance)…

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  • I think the margin is even higher. Add a new layer of “margin” by considering all the iTunes gift cards purchased that are never or just partially used. 100% margin on this. And there is no reason that the iTunes gift
    Card business has a different non redemption rate than other gift cards on the market

    • They are many many times easier to use than a Home Depot card. I would suspect exchange rates on the iTMS gift cards is substantially higher than many other gift cards.

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  • If they ever believe they have “excess margin,” they could always reduce the unjustifiable 30% cut they take from people. And yes, it *is* unjustifiable. They used to justify it it as “marketing” costs. Which is now unbelievable since it’s impossible to “market” as many items as they have in the Store(s) (do the math for “marketing” *each( item in one year — what is it, a few seconds of exposure?). Also, if they ever want to *add* revenue, they could open it up to sell PDFs. In the age of the tablet, PDFs are now actually usable.

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  • I am surprised how much revenue and growth iTunes is still seeing in music sales. All of that is up for disruption by the likes of Spotify and rdio. And I’m more surprised that those services aren’t already taking a bigger bite out of iTunes sales.

    As a long time rdio user, I can’t imagine going back to the poorer experience and much higher prices of iTunes music ecosystem. All the young people I meet these days (in the US anyway) like me have switched wholesale from itunes to cloud-based music services.

  • I am surprised how much revenue and growth iTunes is still seeing in music sales. All of that is up for disruption by the likes of Spotify and rdio. And I’m more surprised that those services aren’t already taking a bigger bite out of iTunes sales.

    As a long time rdio user, I can’t imagine going back to the poorer experience and much higher prices of iTunes music ecosystem. All the young people I meet these days (in the US anyway) like me have switched wholesale from itunes to cloud-based music services.

    • I see dozens of kids every week in the local coffee shop using iPod Touches to listen to music. The ones I have talked to all are tied into the iTMS eco-system for their music and don’t like the idea of streaming music over limited bandwidth and questionable connectivity.

      Given the choice of having my music with me or having to hope for a data connection (the South West is poorly covered with cell coverage), I will take having my music with me every single day.

    • There are different jobs to be done by music services. Ownership is separate from discovery. Discovery is needed by typically younger people who have not developed their taste for music while ownership is needed by older people who have. The discovery job is relatively poorly valued (i.e. not profitable) while ownership is highly valued. Apple chose to serve one and not the other.

  • jameskatt

    So what Horace is actually saying is that Apple’s Software Division is making a lot of money now.

    Apple’s software products are sold through the iTunes App Store. Thus, Apple’s software products are making it seem as if iTunes was making a lot of money for Apple. But it is the software that makes the money, not so much the iTunes store.

    If Apple sold its hardware through the iTunes store, then the hardware would also make money and jack up the perceived income Apple receives from the iTunes store.

    • Chaka10

      Another way to look at it is that 3rd party content enhances devices and, while it is no or low margin, it does share/spread OPEX of running the store which benefits profitability of sales of Apple’s own software. I think it’s an open question whether Apple makes some money from sales of 3rd party developer apps (as distinct from music, video and books).

    • Another way of looking at it is that if you’re in the content retail business you don’t make money. But if you also create some of the content you sell, you can make a lot of money. Something for Amazon, Google and perhaps Samsung to consider.

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  • Horace, since you are talking about the profability of the iTunes-Store I think the last couple of paragraphs are off.

    If Microsoft has a 50% margin producing software that includes the distribution costs. Meaning that 50% is what is left when you already paid the retailer.

    You are looking at the retailer – iTunes.

    You therefor can, IMHO, only look at the amount iTunes SAVES Apple selling software. Looking at Microsoft again, those distribution costs can only be 50% or less.

    Taking Apple’s own market-imposed cost of retail, the 30% they take for every sale, the amount iTunes saves Apple can only be 30% of 3.6bn, or 1.08bn, assuming they get the distribution for free since all the other software companies pay for the infrastructure (servers) already.

    All Apple has to pay for is bandwith.

    So maybe take that 2bn down to 1.23bn, and asterisk it – 150 Million in revenue, >1.08bn in savings.

    • My estimate for Apple Software (CQ3 2012) was $892 million in revenues (reported) of which $178 million was the cost of that revenue (mostly in hosting, transmission and payment processing). The operating expenses (cost of engineering teams) were $230 million leaving an operating margin of $482 million. That’s how the ~50% margin is obtained.

      • Great, more numbers, that’s awesome 🙂

        Thanks for the reply, this gives me more to think about.

      • Ok, I did enough thinking.

        My point is this: “iTunes” is the store – the delivery system. Now Apple moved the Software part of the business into the iTunes subdivision. You then posit that iTunes is making a discernable profit because of this.

        Which is wrong.

        iTunes isn’t making a profit because Apple moved the profit from the Software business to the iTunes column. This is the same… how do I put this lightly… idiotic accounting ploy Microsoft used when they moved their search business around to hide the enormous losses Bing makes. I think at one time they moved Bing into something you could regard as “other” where they also put the XBox division, which was turning a profit, resulting in only a small overall loss for everything considered “other”.

        But we, as the reader, regard “iTunes” as the store. The delivery system.

        If we were talking about Google here or Amazon and if we were looking at their delivery option for goods (Google this week announced they were getting into the delivery business) this move is like moving some part of the advertising business into the delivery subdivision and then pretending that the delivery subdivision is turning a profit because of this.

        You can’t count Apple produced GOODS that are sold on the store (e.g. the Software) as something that’s the same as the STORE itself, which is a delivery system for the goods. All you can do is find out how much money Apple saves via selling the goods digitally and then compare those savings towards an external digital store when talking about the impact of the iTunes store on their Software business.

        Simply put, I think you took a change in accounting and pretend that now iTunes is turning a profit, which is irritating to say the least. Basically you are furthering the notion that the store is turning a profit, which it is not. What is turning a profit is MAKING SOFTWARE to sell ON SAID STORE, especially when the additional cost of selling another unit of software costs virtually nothing because all the thousands of other software developers already pay for the infrastructure (= “economy of scale”). But you are NOT getting THIS point across but rather that the iTunes store itself is now turning a profit.

        I know that any businessman would NOT understand it like that but every layman would and I don’t really think that the 50 to 100k visitors Gruber sent your way take anything else away than “iTunes store = making 2bn a year now”, which is highly misleading.

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