Horace talks about CapEx and begins unpacking the massive topic that is The Capitalists Dilemma. We focus on the surprisingly under-discussed data with regard to Apple’s acquisition of Beats. The deal was officially announced within hours of this recording.
The Re/Code conference begins this week, and Apple executives Eddy Cue and Craig Federighi will be answering questions from Kara Swisher and Walt Mossberg.
Here are some questions I hope they ask:
For Eddy Cue:
- Why is there no app store for Apple TV? Even though the product is running essentially the same hardware and software as the iPhone and iPad and iPod touch and even though it connects to the iTunes stores, there is no option for developers to build apps for it or for consumers to use their TVs to run iOS apps. I might add that it’s been seven years since the platform launched and that’s a long time to wait.
- As Amazon has been granted a monopoly on the distribution of ebooks by the US federal government, why not compete by selling ebooks as apps? Apps were used as ebook containers well before the iBookstore launched and there were tens of thousands of “book apps”. Why not encourage authors and publishers to build apps by offering tools which make it easy to do so? I might add that if you do this for authors, why not do it for musicians and video producers? Why have separate stores for different media when they are all just content?
- YouTube is becoming the TV of choice for millions. Before it becomes that choice for billions, what are you doing to encourage user-generated video content distribution through your ecosystem?
- Apple’s Services revenues are growing remarkably quickly. The number of users is over 800 million. Do you see an opportunity for services to become a more independent business at Apple? In other words, why not bring iTunes to Android?
For Craig Federighi:
- Marc Andreessen uses the phrase “Software is Eating the World” to describe the disruption that software-enabled businesses are having on those who don’t depend on software. You are the head of software at Apple; what’s on your plate? In other words, what do you see the opportunity for software at Apple beyond enabling device sales? I might add that although you are leading Software Engineering at Apple, Software and Services are part of Eddy’s organization. Does this separation make sense?
- It’s likely that iOS will be used by more people than Windows in the near future. What do you see as the obstacles to iOS replacing Windows for what most business users use daily?
- If you believe that iOS can replace Windows (at least in some tasks), do you think the iPad will ever replace the Mac?
This was originally posted on LinkedIn on May 28th.
In The Capitalist’s Dilemma, Clayton Christensen and Derek van Bever introduce a powerful new theory which explains the relative paucity of growth in developed economies. They draw a causal relationship between the mis-application of capital in pursuit of innovation and the failure to grow.
In particular, they observe that capital is allocated toward the type of innovations which increase efficiency or performance and not toward those which create markets (and hence long term growth and jobs.) This itself is caused by a prioritization and rewarding of performance ratios rather than cash flows and that itself is due to a perversion of the purpose of the firm.
For this statement of causality to be confirmed we need to observe whether it predicts measurable phenomena. For instance, we need to see whether companies which create markets apply capital toward market-creating innovations and whether companies which create value through efficiencies or performance improvements hoard abundant capital.
Over the entire global economy, the pattern of capital over-abundance is easy to see. The amount of cash or securities on balance sheets is extraordinary and unprecedented (estimated at $7 Trillion, doubling over a decade). However, growing cash is not a perfect indicator of inactivity. Cash is the by-product of earnings after investment. So if operating profits are growing and investment is growing, but not as fast, then it’s possible to grow cash while still growing investment.
The better measure is investment in capital equipment or, more specifically, purchases of plant, property and equipment. Indeed, on a global scale, capital expenditure as a percent of sales is at a 22-year low.
CapEx is a good proxy for non-financial “investment”. It’s also a measure that can be easily obtained as companies report this activity in their Cash Flow Statements.
So the best method for assessing the theory’s predictive power is to look at market creators and measure their investment in PP&E. At the same time we need to look at market sustainers and measure their (probable) lack of investment in PP&E.
So here is my first attempt:
It’s an admittedly small sample of companies that are not that dissimilar. But within this group, over the time frame of about 9 years, we can see how capital expenditures are growing. This sample shows that for a few companies, the amount spent on capital equipment grew dramatically. Especially since they are in businesses that might be thought of as not capital intensive.Notes:
- and, indirectly, in the increase in inequality and hence the destabilization of socio-political institutions [↩]
- That being the creation of customers not shareholder returns [↩]
- Operating expenditures can also be measured but they cannot grow inorganically due to most of the costs being related to skilled employment which has supply constraints. [↩]
- Note that Apple’s data extends to the end of their fiscal year and reflects their forecast given last October in the 10-K filing [↩]
On continental trips, diesel engines and autobahn speeds, pilgrimages to Porsche and BMW’s brand meccas.
How to understand the world through toy cars, from Matchbox to Hot Wheels, Siku, Majorette to Tomica.
On the business of car distribution, “channel stuffing” and the origins of state franchise regulation.
Reflections on Apple’s routing around now-defunct computer retail channels via its highly successful stores.
The Apple stores are now 13 years old. In the first full year of operation (2002) the stores generated revenue of $282 million. In the last full year (2013) the revenues were $20.228 billion. Quarterly sales during the last seven years are shown below:
Additional details regarding average visitors per employee per quarter, average visitors per store per quarter, average retail profit/employee and visitor, average revenue per store, employment and visits correlation, employment per store and in total, stores open over time, visitors over time, average revenue per visitor, capital asset purchases and estimated cost structure per visit are shown below:
The Apple store concept has reached teenage years and it seems a good time to renew their character.Notes:
- The first store at Tysons Corner in McLean, VA opened on May 19 2001 [↩]
In the graph below the grey circles represent the US penetration (percentage of households which own) MP3 players.
Superimposed on this sparse sample graph is a line showing the sales of iPod touch. This second graph has a different scale, shown with a gridline at 10,000, representing millions of units shipped by Apple. To smooth out seasonality I show the trailing four quarter average with a thick line.
The correlation is fairly evident. As iPod sales grew, penetration grew and “peak MP3″ was recorded in September 2010 while peak sales occurred at the end of that year.
It’s not a stretch to say that iPod touch sales are causal to MP3 penetration, especially since the iPod has remained the market share leader in the segment for a long time (at least 70% share) and that the iPod touch is consistently half or more of the iPod.
The absence of data for penetration beyond 2012 is therefore not a problem. We can assume that MP3 devices have a finite lifespan and, if not replaced, the penetration will decline.
I modeled both the increase and decline with a diffusion curve as follows:
Three years ago Apple’s Greater China Q1 sales were $2.22 billion or 9% of total. This year they were $9.29 billion or 20% of total. Over this time frame the growth in China was about 320%. The second fastest growing reporting segment was Japan with growth of 187%. Europe was third with 70% and Americas fourth with 53.5%. Rest of Asia/Pacific had the smallest increase of only 4.1%.
A graph showing both the absolute and relative sales levels for the reporting regions is shown below.
As overall sales have increased significantly, the revenues from the Americas and Retail combined (as most stores are in the US) went from 51% in Q1 2011 to 42% in Q1 2014. The 11 point increase in share for China can be thus seen as mostly at the expense of the US. As Americas did not decline more appropriate statement would be that China captured much of the growth of the last three years.
Note that I also included Google’s revenue split in the graph above. This is partly to calibrate Apple’s mix and to understand if the expansion outside the US is mirrored by other companies.
Google, in particular, is largely absent from the Chinese market and the only regional detail we have for their revenues is the US, UK and Other. That leaves an analysis of the dependency of each company on the US market.
Google’s US revenue percentage did drop from 47% to 43% but it’s worth noting that not only is the drop slower than Apple’s, the overall dependency of Google on the US for revenues is higher than Apple’s.
A surprising observation as Apple’s concentration of users, measured as market share for various products, is likely to be higher in the US than Google’s distribution of users.
Put another way, Google is broadly popular world-wide (except for search in China, Korea and Russia) but its customers and hence profitability are highly concentrated.Notes:
Steve Jobs famously said that Apple stands at the intersection of of Technology and the Liberal Arts. He said it more than once because he thought it was an important distinction of the company.
In an intuitive way, the message may have gotten through to the average person, but I don’t think professional observers and managers of technology have quite grasped what he meant.
It’s not a glib throw-away marketing phrase. I can imagine many other, more evocative ways of saying that Apple blends the hard and the soft; the heart and mind, if you will.
His choice of words makes me believe that he meant it as a fundamental blending of two disparate and considered-opposite concepts, rather like yin-yang: things which do not naturally mix but which are complementary, interconnected, interdependent, and give rise to each other.
This interaction however is not well understood and even more rarely exploited. The reason they don’t mix well in business in particular is that individuals are typically not trained in both. Our education systems (from where these phrases originate) are unwilling or incapable of providing us with a grounding in both, so individuals tend to absorb only one or the other.
But it turns out that the interaction between these nominal opposites have determined our world to date and will continue to determine our fate. A cursory review of history shows that the “soft”, perceptive and feeling-based disciplines always combined with the analytical and judgmental to create a future which neither could create alone.
I note how Apple uses this combination to an advantage and have also used this methodology myself to understand and sense the future. Taking this method further, I would like to share it with others. I would like to recognize some faint but powerful patterns and bare some of the more audacious conclusions of my analysis.
The method chosen is a forum we are convening called The Post Modern Computing Summit.
It’s a small gathering where we are inviting the most enlightened thinkers of the future of computing to lead us into its next age, and perhaps, tentatively, the next era of civilization.Notes:
- We’ll also answer the questions of where tablets are going, and where they will takes us, what is the future of apparel computing, what does intimate computing mean and who will benefit and who won’t. [↩]
Horace and Moisés catch up on a few weeks of topics, from Apple earnings to iPad discontinuity to ecosystem disparity to followup on ComiXology. Why would you ask a freshwater fish what it’s like to live in the open sea?
This is what “Not getting the Cloud” looks like:
“Not getting the cloud” means that in the last 12 months Apple obtained:
- 800 million iTunes users and
- an estimated 450 million iCloud users spending
- $3 billion/yr for end-user services plus
- $4.7 billion/yr for licensing and other income which includes
- more than $1 billion/yr paid by Google for traffic through Apple devices and
- $13 billion/yr in app transactions of which
- $9 billion/yr was paid to developers and
- $3.9 billion/yr was retained as operating budget and profit for the App Store. In addition,
- $2.7 billion/yr in music download sales and
- more than $1 billion/yr in Apple TV (aka Apple’s Kindle) and video sales and
- $1 billion/yr in eBooks sold
In summary, iTunes, Software and Services has been growing between 30% and 40% for four years and is on its way to $30 billion/yr in transactions and sales for 2014.
This is what can be deduced from a reading of Apple’s financial statements of operations. If there are comparable details for companies which do get the cloud, I’ll be happy to tally the comparison so we can calibrate this failure.