Apple's 3Q23 in Three Charts
Hello everyone. Welcome to Monday and a new week. We will continue our Apple 3Q23 review.
Given how the past few quarters for Apple have contained similar themes, we are going to try something different for this quarter's review. We will focus on three charts that sum up Apple's 3Q23. As we will see, there is quite a bit of consistency on display with each chart. (We will cover all of the granular takeaways from Apple's 3Q23 earnings call in tomorrow’s update.)
Before jumping into today’s update, one clarification regarding Friday’s update. When talking about Apple’s hardware margins, the commentary was garbled. That part of the update should have read:
Products (HW) gross margin: 35.4% (vs. my 35.7%). My iPhone gross margin estimate was a tad bit too optimistic. On a year-over-year basis, HW gross margins were up by 85 basis points.
Apple's 3Q23 in Three Charts
Gross Profit Resiliency
3Q23 results: $36B gross profit (up 1.5% from 3Q22)
There has been much attention placed on Apple’s gross margins (and rightly so). Gross margin is cost of goods subtracted from revenue. Based on management commentary, the company will come close to reporting a 11-year quarterly high for gross margin percentage 1Q24. Management provided a 44.0% to 45.0% range. Gross margin percentages don’t tell the full story though. Instead, we need to look at gross profit in absolute terms to obtain a cleaner assessment of Apple’s business.
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Disney CEO Talks ESPN’s Future, Apple’s Sports Play, Apple Watch Ultra Reviews (Daily Update)
Hello everyone. Let's begin today's update in the live sports world.
Disney CEO Talks ESPN’s Future
Last week, Disney CEO Bob Chapek, who recently had his CEO contact extended by three years, sat down with CNBC’s David Faber to talk about ESPN and where live sports goes from here.
Here’s Chapek:
“We're hard at work in our offices, both on the east coast and the west coast, figuring out how we make it more friction-free sports environment for our viewers. And obviously, some of these things take the cooperation of a lot of the people in the ecosystem, whether they be the leagues, other broadcast partners, but we foresee a world where ESPN, even more than ever, is the pinnacle of all your broadcast needs and we’re excited to continue working on that and at some point, when we’re all fully backed, we’ll come back.”
Chapek referred to four broad working areas as to where Disney is focusing ESPN's energy:
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The Apple Watch Series 7 Is Great
Shortly after Apple’s virtual event last month concluded, some people wondered out loud if the Apple Watch Series 7 was a placeholder. The rumor hill was confident that Apple was going to extend the design language found with the iPhone and iPad by announcing an Apple Watch with flat edges. Instead, Apple unveiled an Apple Watch Series 7 display with curved edges. The apparent lack of other noteworthy features was then used by some as evidence of Apple rushing the Series 7 to unveil something in front of the holidays.
Nothing could be further from the truth.
For the past few days, I’ve been using an Apple Watch Series 7 (45mm - Aluminum Green). The best descriptive words regarding the Series 7 that come to mind are fun, fulfilling, and endearing. The Series 7’s targeted updates help to advance computing on the wrist while addressing some known friction points that had accompanied daily usage. There is nothing like the Apple Watch in the market, and Apple continues to run forward with a device ushering in a paradigm shift in computing.
The following are my initial impressions from using an Apple Watch Series 7.
Larger Screen. Apple Watch Series 7 marketing is anchored around the larger screen - and for good reason. Much to my surprise, reducing the display borders by 40% gives the Series 7 a completely different kind of Apple Watch experience. Instead of using the Series 7’s larger screen (20% larger than the Series 6) to include more text and information, Apple leveraged the additional screen real estate to make buttons and text larger. This was a smart decision. Instead of having Series 7 owners spend more time looking at their wrists, the larger screen makes it easier to quickly gather information and not get lost in the watch.
One way of describing the Apple Watch’s screen size changes over the years is that the Series 4 went after the low-hanging fruit. There was value found in simply fitting more stuff on a bigger screen. The Series 7 screen (50%+ larger than the Series 3) feels like the refinement step, focusing more on the finer things like larger font and click areas that end up having a larger impact on daily usage.
Larger Footprint. Apple Watch Series 7 has a slightly larger form factor than the Series 6 (45mm and 41mm vs 44mm and 40mm). The larger size on the wrist was not noticeable. The Series 7 Aluminum doesn’t feel heavier than the Series 6 either despite weighing 7% more. Weight becomes a bigger issue when moving to the Stainless Steel from Aluminum. As someone who has worn the Aluminum regularly for years, the Stainless Steel is too heavy for my taste. There will come a point at which the larger Apple Watch option starts to become unwieldy, but I don’t think we are at that point yet.
Apple Watch Series 6 (left) vs. Apple Watch Series 7 (right)
Setup. It took about 20 minutes to set up the Series 7 with an iPhone 13 Pro using Restore from Backup. Similar to how the iPhone setup process has become streamlined over the years, the days of needing to wait until the weekend to set up your new Apple Watch for fear of running into issues are over.
Brighter Screen. Similar to how the Series 7’s larger screen jumped out at me, the 70% brighter always-on screen was also noticeable. To the user’s eye, it pretty much seems like the Apple Watch screen has the same brightness regardless of one’s wrist position. With the Series 6, I found myself needing to tap the screen when in the “always-on” state and not in a direct line of sight because it wasn’t bright enough.
Color. Apple unveiled five new aluminum colors - Green, Blue, Product Red, Starlight, and Midnight. The green is very attractive, reminding me more of a greenish black. In certain light conditions, the Watch comes across as having a black case.
Battery Life. Apple has been following an “all day” battery life strategy for Apple Watch. Instead of removing Watch features to extend battery life to two to three days, Apple has strived to have Apple Watch battery life last as close to a full day as possible without the wearer needing a quick boost in the middle of the day. For the most part, Apple has been successful with that objective. Obviously, Apple Watch battery life is dependent on usage. Someone that goes heavy on workouts, podcast listening, and GPS will struggle getting through the whole day on a single charge. However, on average, the Apple Watch should last from a morning charge to getting ready for bed approximately 18 hours later.
In recent years, sleep tracking has complicated Apple’s battery goal for Apple Watch. It’s no longer enough for Apple Watch to last a full day. It also needs to last the subsequent night. Quick charge is Apple’s solution. In the amount of time someone takes to get ready for bed, an Apple Watch can get enough charge (~20%) to do six to eight hours of sleep tracking and then be ready for a longer (~45 minutes) charge in the morning.
Based on my rudimentary testing, the strategy holds true. Thanks to an updated charging architecture and fast-charging USB-C cable, I was able to charge the Apple Watch Series 7 from 0% to 82% in 45 minutes. That is favorable to Apple’s 80% battery charge in 45 minutes claim. As for Series 7 and Series 6 charging, I achieved 25% to 30% faster charging for the Series 7 using the same 20W USB-C power adapter for both the Series 7 and 6. Apple claims the Series 7 has “up to 33% faster charging” than the Series 6 when using a 20W USB-C power adapter with the Series 7 and a 5W USB power adapter with the Series 6.
In practice, does all of this battery life strategizing work for the average Apple Watch wearer? The short answer is “yes.” Most Apple Watch wearers will likely end up getting through the day and night on a single charge. A roughly 30 minute charge in the morning will then be enough to get through the following day. Of course, there is room for Apple to improve Apple Watch battery life. There will likely always be room for battery life improvement.
Full-Size Keyboard. Two words: scary good. I was impressed with Apple’s slide-to-text technology that relies on machine learning to predict what I’m typing. Heading into the Series 7, my view was that tapping or sliding on an Apple Watch screen to write messages or emails didn’t make much sense. Instead, dictation was the way forward. That idea hasn’t completely gone away for me. It’s still faster to dictate messages on the wrist instead of typing. However, using voice for dictation has its limitations, especially when it comes to privacy. It’s just not practical or useful to use voice to dictate messages when in meetings or public settings. By including a built-in full-size keyboard for the first time (third-party options were previously available), Apple has essentially given the Apple Watch a new user input.
In a related note, as discussed above, the larger touch areas made possible by the 20% larger screen really do make a difference. For example, it’s easier and more enjoyable using the calculator app.
Putting the Series 7 Into Perspective. As someone who has worn an Apple Watch daily for the past six years, the Series 7 is up there with the Series 4 as being the most noteworthy upgrade to date. It’s that good. That may come off as surprising given the lack of new features found with the Series 7. However, quality always trumps quantity when it comes to new features. The primary reason for the Series 7 receiving such a high honor is that a larger screen plays a very big role in my day-to-day Apple Watch experience. The wrist is among some of the most valuable real estate for computing, and a larger Apple Watch screen takes advantage of that premium real estate.
At the same time, Apple’s ongoing dedication to Apple Watch’s rectangular design heritage is appreciated. Apple could certainly go in different directions with Apple Watch case design, but the company’s continued commitment to positioning Apple Watch as a general computing device ends up being met with a screen designed to display text and information. Apple’s focus on maintaining all-day battery life despite larger power requirements, like a brighter and larger screen, is also something that can’t be ignored.
One Final Thing About the Series 3. Apple continues to sell the Apple Watch Series 3 alongside the flagship Series 7. Apple is relying on a different strategy here than with the iPhone and iPad. By not keeping last year’s Apple Watch series around, Apple ended up creating a larger gap in feature set between models. The end result is more people opting for the latest and greatest. When comparing the Series 7 to the Series 3, it’s no surprise that the Series 7 will grab the majority of sales. Interestingly, the Apple Watch SE (basically a rebranded Series 4) wasn’t updated last month either. This will only serve to funnel additional sales to the Series 7.
There are a few reasons for Apple to keep the Series 3 in the lineup. Price is a big one. For some users, budget is the most important purchasing consideration. The Series 3 is just $199 in comparison to $399 for Series 7 GPS. The Series 3 also prevents a price umbrella from forming under the flagship model. With the Series 3 still available for sale, it’s difficult for an Apple Watch competitor to gain traction in the $150 to $200 range. Despite being four years old, the Series 3 can still hold its own relative to the competition. That just goes to show how far Apple is with its wearables strategy.
As someone who has used both the Series 3 and now Series 7, the difference between the two models is like day and night. It’s hard to imagine going from a Series 7 back to a Series 3. The $200 price gap comes across as small. The thing is, the Apple Watch is a new user story. Unlike the iPhone, Apple Watch sales are driven by customers buying their first Apple Watch. A Series 3 still beats a bare wrist.
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Above Avalon Podcast Episode 184: Let's Talk WWDC 2021
In episode 184, Neil discusses the big themes found with this year’s WWDC. The episode then takes a deep dive into watchOS direction and what Neil sees as missed opportunities for unleashing more of Apple Watch’s potential.
To listen to episode 184, go here.
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Apple's Missed Opportunity at WWDC
For the third year in a row, Apple held an impressive WWDC (worldwide developers conference). The breadth of announcements across various product categories speaks to how Apple is successfully pulling away from the competition. No other company is able to match Apple’s ability to push so many distinct platforms forward yet simultaneously keep an eye on ecosystem cohesiveness. It was this ecosystem focus that ended up being one of the major takeaways from Apple’s WWDC 2021, as outlined in my WWDC review (available here for Above Avalon members).
With that said, it was hard to shake the feeling that Apple missed a big opportunity at this year’s WWDC to push its most personal product even further than it already has. There were three specific instances in which Apple had the chance to add functionality to the Apple Watch but instead chose to puts its focus on less robust alternatives. It is in Apple’s best interest to expand Apple Watch functionality in order for the device to handle an increasing number of tasks currently given to smartphones and tablets.
Focus
Along with unveiling revamped notifications, Apple announced a new initiative aimed at helping users avoid unwanted distractions. With Focus, users can now match their device usage to activities and mindset. Positioned as a type of enhanced Do Not Disturb, setting up a Focus gives users more control over how involved they can become with their devices at any given time. The features sure seem to be a direct result of Apple employees struggling with work from home directives over the past 15 months during the pandemic.
While some people will undoubtedly benefit from Focus, Apple missed a big opportunity to position the Apple Watch as a solution for iPhone information overload. Apple Watch wearers are already able to put down their other Apple devices but still feel connected by receiving important notifications or reminders. It was odd how Apple didn’t draw attention to such utility and look to add new controls to Apple Watch that allow us to engage with our other devices without becoming overwhelmed. Instead, Apple went so far as to imply the Apple Watch contributes to information overload. The entire Focus segment of the keynote came off as not fully thought out.
Smart Home
The smart home remains the Wild West. It is simply too early to declare winners or losers in the space. Companies are now reconfiguring their smart home strategies to focus on verticals seeing some kind of traction (security in the form of video cameras and video entertainment in the form of streaming video boxes and speakers).
During WWDC, Apple unveiled a few updates to its smart home strategy. One of the more strategic changes involves expanding Siri support to third-party smart home devices. Voice queries will be run through a homeowner’s HomePod or HomePod mini. While the feature may become popular with some users, Apple missed another opportunity to position the Apple Watch as a key differentiator when it comes to grabbing territory in the home.
At one point during the WWDC keynote, Apple’s Yah Cason said the following: “We believe Siri is most powerful when it’s available throughout your house.” Apple is right in making such a claim - a digital voice assistant is indeed more powerful and valuable when not confined to a stationary device. However, is having more stationary devices in the home the best solution for always having Siri nearby? Apple seemingly ignored how nearly 110 million of its users already have Siri always on them when at home by wearing an Apple Watch. Having Siri always available on one’s wrist via the Apple Watch means there is no need to worry about where a Siri-integrated device may be found in and outside the home. In addition, Apple Watch wearers have a screen to display Siri answers which is useful for things like weather queries, sports scores, and seeing how much time is left on a timer. Apple could be giving the Apple Watch a much larger role to play in its smart home strategy. We saw hints of this potential when Apple unveiled an updated Home app for Apple Watch. Much more could have been done.
Siri Watch Face Forgotten
For the third year in a row, Apple acted as if the Siri watch face didn’t exist. While Apple can technically use its fall event for unveiling new Apple Watch hardware to also announce updates to the Siri watch face, such a scenario doesn’t seem likely.
Unveiled at WWDC 2017, the Siri watch face pushes snippets of information and data to an Apple Watch wearer throughout the day. This information is contained in “cards” that change based on the time of day, location, and upcoming schedule. Apple announced a major update to the Siri watch face in 2018 when third-party cards and Siri shortcuts were made available. In a disconcerting development, Apple hasn’t announced any updates to the Siri watch face since.
Interestingly, despite no updates to the Siri watch face, Apple did bring similar functionality to the iPhone in 2020 via the Smart Stack widget. Even the design of the Focus app shares some functionality with the Siri watch face. Given these developments, the lack of updates to the actual Siri watch face ends up being that much more of a head scratcher.
Why?
It’s easy to write a blog post or record a podcast / video about how Apple is making a mistake and needs to adjust strategy. The value is found in understanding the “why” behind a particular Apple decision, which involves weighing both sides of a decision.
Why didn’t Apple push Apple Watch more when it came to reducing notification overload on iPhones and helping Apple users throughout the home? Why does Apple continue to ignore the Siri watch face?
There are two possible explanations for Apple’s actions:
1) Apple believes wrapping the Apple Watch around health makes the device an easier sell with consumers. Some of the biggest watchOS announcements unveiled at this year’s WWDC were once again related to health. This follows Apple’s multi-year strategy of adding health sensors to the Apple Watch. While Apple management knows that most Apple Watch wearers use the device for more than health monitoring, those other use cases are not used to anchor Apple Watch marketing. As seen with the following images from Apple’s Apple Watch webpage, it’s all about heath. Even fitness, which is more niche than health, takes a secondary position to health when it comes to selling Apple Watch.
There may be a “if it ain’t broke, don’t fix it” mentality at play with Apple Watch product marketing. Apple’s current Apple Watch strategy involving health (and fitness) seems to be connecting with customers as seen by Apple Watch unit sales (the following are my estimates):
2018: 22 million units
2019: 26 million
2020: 31 million
Accordingly, Apple may be bypassing certain features for watchOS that would fundamentally move the Apple Watch away from being an intelligent health companion device.
2) Apple is close to announcing its entry into face wearables. Apple may not want to spend years positioning Apple Watch as a certain kind of device only to have it be surpassed by a pair of lightweight smart glasses (AR / mixed reality). Instead, Apple is focused on pushing Apple Watch in a direction that it is confident will complement a pair of smart glasses. This results in Apple making a notable push on the health front from both a hardware (sensors) and software perspective while other functionality is kept on the back burner with the intention of having it show up in face wearables.
A Different Approach
Just as it’s easy to say that Apple is doing something wrong, the claim is worthless if counter suggestions aren’t given. If Apple needs to make a change with Apple Watch, what should that change be?
One issue that is starting to become noticeable is Apple not expanding Apple Watch’s functionality fast enough. Using health to anchor Apple Watch marketing may indeed be a good way for Apple to grab new Apple Watch users. For some, the Apple Watch makes for a great health / fitness companion and nothing more. Those users should be able to continue using Apple Watch for health monitoring without needing to mess or deal with extraneous software or features.
However, Apple is not pushing Apple Watch enough from the perspective of being an iPhone alternative. The Siri watch face is a bridge to the future and yet all signs point to few people using the face. The lack of updates certainly hasn't helped in improving adoption. There are signs of deeper issues at play. According to Apple, Photos is the most popular watch face. That may seem innocent enough. However, Apple Watch watch faces were once positioned as apps. This turned to watch face complications. Why then are Apple Watch wearers using the most simplistic and data-free watch faces such as Photos? This may be a sign that Apple needs to reexamine the concept of watch faces as apps. Users likely don’t want to interact with various complications or even watch faces. This doesn’t mean that users do not want additional functionality from Apple Watch. A more likely answer is that users like the ease and simplicity found with the Photos watch face. (With this, they are still able to receive all of their notifications, messages, and alerts).
Instead of pushing increasingly complicated Watch faces, legacy watch faces, or bringing a version of multitasking to Apple Watch, the additional functionality given to Apple Watch would materialize in the form of machine learning pushing more information and context to the wearer throughout the day. The only information one would need to see on their wrist would be based on one’s:
Daily habit (provide the upcoming weather each morning at the same time given prior habits, give driving time information to the local coffee shop frequented each morning).
Current activity (push news alerts while seated at the coffee shop).
Location (suggest items that may be of importance to the wearer’s current location).
Schedule ( provide information that is relevant to an upcoming meeting, reminder, or event).
Notice how all of those items involve action verbs - provide, give, push, and suggest. That is Apple Watch’s future - an intelligent assistant that helps people get through their day.
With an Apple Watch installed base quickly approaching 125 million people, even if only a portion of Apple Watch users are interested in this additional functionality, we are still looking at tens of millions of people, and that number will prove to be conservative over time. It’s not enough to anchor watchOS releases around new health features, a new portrait photos watch face, and GIF support in messages.
The Apple Watch already has the pieces required for handling additional functionality:
An always-on screen with superb line of sight for the wearer.
A smart digital assistant that increasingly knows more about the wearer’s past, current, and future activity. (This is where having an ecosystem of devices that is also home to the digital assistant will help.)
A developer base that is increasingly embracing Apple Watch and watchOS.
As for the idea that an eventual Apple Glasses launch should dictate how Apple positions the Apple Watch in 2021, a pair of lightweight glasses from Apple is likely still a few years away. It’s odd for Apple to put the Apple Watch on the proverbial ice when it comes to non-health initiatives in response to a product that is still years away. Even in a world with Apple Glasses, it is not a given that Apple Watch will even be a competitor. Glasses may not be the best form factor to push information to the wearer throughout the day, even if it’s through peripheral vision. Instead, Apple Glasses would be aimed at helping the wearer navigate the world while the Apple Watch would be more of a digital assistant / monitor focused on providing granular information throughout the day. Also, the Apple Watch is well-positioned to help power a pair of Apple Glasses given the amount of real estate available on the wrist for storing technology and sensors.
Giving the Siri watch face a much-needed reboot in watchOS 9 would be a great start at unleashing a new layer of Apple Watch functionality. Such a reboot can be wrapped around a series of new Watch faces that amount to pushing different kinds of information to the user throughout the day while retaining much of the simplicity found with the Photos face. Apple can increase the number of available cards in the Siri watch face and push card development as a key priority for watch developers interested in getting in front of users. In addition, a more concentrated focus on selling Siri on your wrist and enhanced notifications control will go a long way. This could set Apple up for eventually including a front-facing camera on Apple Watch for FaceTime calls (with software that auto-centers the subject so that one can’t tell you are using an Apple Watch to make calls).
One lesson from this year’s WWDC is that Apple isn’t just pushing individual product categories forward but rather using devices and services to push an ecosystem forward. For a product like Apple Watch, Apple’s goal should be positioning the device as both taking advantage of its unique design attributes while also helping to add value to other Apple devices. The Apple Watch is the most popular watch in the world. It’s time for Apple to begin unleashing more of Apple Watch’s potential.
Listen to the corresponding Above Avalon podcast episode for this article here.
Receive my analysis and perspective on Apple throughout the week via exclusive daily updates (3 stories per day, 12 stories per week). Available to Above Avalon members. To sign up and for more information on membership, visit the membership page.
For additional discussion on this topic, check out the Above Avalon daily update from June 24th.
Apple Has a Decade-Long Lead in Wearables
Last week, Apple quietly unveiled one of the more remarkable pieces of technology that has been developed in the past few years. AssistiveTouch allows one to control an Apple Watch without actually touching the device. Instead, a series of hand and finger gestures can be used to control everything from answering a call to ending a workout. The video below showcasing AssistiveTouch is quite impressive:
Just two months prior, Facebook went on a big PR push to show the world how it was in early R&D stages of working on technology that can also use hand and finger movements to control future gadgets. AssistiveTouch is just the latest example of how Apple’s lead in wearables is still being underestimated. The evidence points to Apple having a wearables lead of not just a few years but more like a decade.
Apple Wearables by the Numbers
According to my estimate, Apple is on track to sell more than 100 million wearable devices in 2021. That total represents nearly 40% of the number of iPhones that will be sold during the same time period. Unit sales don’t tell the full story, however. On a new-user basis, Apple is seeing more people enter the wearables arena than buy a new iPhone for the first time.
Exhibit 1: Apple Wearables Unit Sales (2017 to 2021)
Note: Apple wearables include Apple Watch, AirPods, and select Beats headphones.
On a revenue basis, Apple Watch, AirPods, and select Beats headphones are a $30 billion per year business. That would rank Apple wearables on a combined basis just shy of a Fortune 100 company. Assuming continued Apple Watch and AirPods momentum, along with Apple expanding its wearables platform by getting into face wearables (AR/VR headsets and glasses), Apple wearables will likely be able to generate up to $50 billion of revenue annually within a few years.
Exhibit 2: Apple Wearables Revenue (2017 to 2021)
Note: Apple wearables include Apple Watch, AirPods, and select Beats headphones.
Measuring Apple’s Lead
When Apple unveiled the iPhone in January 2007, Steve Jobs famously said that the iPhone was “literally five years ahead of any other mobile phone.” He ended up being mostly correct. It took the competition a number of years, and a whole lot of copying, to catch up with what Apple had just unveiled.
With wearables, my suspicion is Apple’s lead is longer than five years. There are three components to Apple’s wearables lead:
Custom silicon / technology / sensors (a four to five-year lead over the competition, and that is being generous to the competition)
Design-led product development processes that emphasizes the user experience (adds three years to Apple’s lead)
A broader ecosystem build-out in terms of a suite of wearables and services (adds two years to Apple’s lead)
Apple has at least a four-to-five year lead over the competition when thinking about just the technology powering its wearables. Everything from custom silicon and health monitoring sensors to audio and AR-focused technologies come together to set Apple apart from the competition. Only a select number of companies will likely be able to even compete with Apple on the technology front. Others will be forced to pursue partnerships.
Apple’s wearables lead extends beyond four to five years when taking into account attributes that set wearables apart from mobile devices. Succeeding on the technology front is not enough. Wearables need to be designed so that people want to be seen wearing them for extended periods of time. A smartwatch or wireless pair of headphones must also be able to work seamlessly with other devices and services. A competitor needs to have not only an answer for effectively competing with Apple Watch on the wearables front, but also answers for various services available on AirPods and Apple’s other devices. Looking ahead, Apple’s entry into face wearables will only make the hill to climb that much steeper for competitors trying to go after Apple Watch and AirPods.
For competitors, the intimidating part is that the pieces needed to compete effectively with Apple wearables are unable to be worked on concurrently (at the same time). A company needs to first spend the required years developing and researching the core technologies before turning its focus on ensuring the right kind of collaboration exists between engineering and design. Product sales will then need to materialize before a company has the means of leaning on an ecosystem to sell additional wearable devices.
Apple M&A
A different way of measuring Apple’s lead in wearables is to look at the company’s M&A activity. Apple has been busy buying tech and talent for its upcoming face wearables play for the past six years. In wearables land, the days of new products taking only two to three years to develop are over. The required technology and R&D required to get such devices off the ground require much more lead time.
Metaio - AR (2015)
SensoMotoric Instruments – AR glasses (2017)
Vrvana – AR / hand & positional tracking technology (2017)
Akonia Holographics – AR glasses (2018)
NextVR – content platform for wearables (2020)
Spaces – content platform for wearables (2020)
Examples of Apple’s Lead
There are a number of real-world examples demonstrating Apple’s significant lead in wearables.
AssistiveTouch vs. Facebook Reality Labs. Two months ago, Facebook gave the press a peek at how it is researching using a smartwatch-like device as an input method for a pair of AR glasses. The research, centered on electromyography, looked to be in the pretty early stages with many years needed before seeing the technology in a consumer-facing product. The video was intriguing as it showed research that was thought to be at the forefront of what is going on in technology R&D today. Apple then shocked everyone by unveiling AssistiveTouch for Apple Watch. Instead of showing a behind-the-scenes look at an R&D project, Apple unveiled a technology ready for users today. The technology, relying on a combination of sensors and technologies to turn the Apple Watch into a hand / finger gesture reader, was designed for those in need of additional accessibility. Of course, the technology can go on to have other use cases over time, such as controlling a pair of smart glasses like the ones Facebook is working on. AssistiveTouch does a good job of showing just how far ahead Apple is on the wearables R&D front.
Google I/O 2021. At its 2021 developers conference, Google showed signs of finally taking wrist wearables seriously by ditching Wear OS and partnering with Samsung on a new OS. While it is fair to be skeptical that the effort will end up being successful, the announcement was a marked change from prior Google I/Os when wearables were all but ignored. Diving a bit deeper into Google’s announcement, it’s easy to see how far behind Google truly is in wearables. The company doesn’t even have an OS capable of powering a smartwatch. This may be excusable if Apple Watch was just unveiled. However, last month marked Apple Watch’s sixth anniversary.
Snap Spectacles 4 / Microsoft HoloLens / Magic Leap. While we see a handful of companies release various kinds of prototype hardware for the face (AR/VR/mixed reality), nothing has stuck with consumers. The feeling in the air is that they all lack something – design thinking. This is an item that is not easy to recreate with most companies simply not structured to emphasis design. Many companies will need to rethink their face wearables strategies once Apple enters the market. None have viable answers for smartwatches or wireless headphones either, which make their face-focused efforts look incomplete.
How Did This Happen?
Apple’s lead in wearables wasn’t driven by any one factor or item. Instead, a series of events came together to give Apple an advantage.
Apple was early. One way to build a big lead against the competition is to get an early start. Wearables represent a paradigm shift in computing, and few companies other than Apple saw it coming. As for how Apple was able to see it so early, wearables are all about making technology more personal - a mission Apple has been on for decades. In a way, Apple was built to excel with wearables. Apple’s lack of fear in coming up with new products that may potentially impact sales of existing products also helped the company run wrist-first into wearables in the early 2010s.
Voice computing distraction. Even after Apple began to unveil its wearables strategy, many competitors balked at following the company. Competitors thought the actual paradigm shift materializing was found with voice computing. Most of these companies didn’t have the hardware expertise to do well with wearables out of the gate, so they pinned their hopes on voice assistants being piped through stationary speakers. Once the stationary smart speaker mirage became apparent, companies found themselves years behind Apple on the wearables front.
Wearables require design expertise. It’s not enough to just throw together some leftover smartphone components and ship wearables. People want to wear devices that they are OK with being seen in. This is one reason why so many companies have looked at Apple Watch for design cues. The lack of design talent and ability remains a major roadblock for many companies.
Ecosystem and technology advantage. Wearables are the ultimate ecosystem play. On the technology front, Apple was able to utilize lessons learned from mobile devices to push wearables forward. Not many companies are able to do the same. Consolidation in the smartphone space has left only a handful of companies even in a position to have a wearables and mobile ecosystem. The probability of there being a wave of smartwatch OEMs utilizing something akin to Android remains low.
No price and feature umbrellas under Apple. One reason Android found oxygen in the smartphone space is that Apple left a pretty wide price umbrella under the iPhone. In addition, Android positioned itself as giving users features that iPhone users may not have had access to. No such umbrellas exist in wearables. Entry-level AirPods sell for $159 and are often available for less at third-party retailers. Apple Watch is available starting at $199. It is very difficult for a hardware manufacturer to sell wearables for less than Apple and turn a profit. Meanwhile, companies that would look to make money in other ways, such as through data collection, are still stuck with the requirement of wearables needing to look good enough to be worn in public.
Six years after releasing the Apple Watch, it’s still not clear who is going to represent genuine competition for Apple in the wearables space. Apple’s success in wearables is finally being noticed by others, as seen by the growing number of companies selling products for the body (Amazon, Microsoft, Facebook, Google, Samsung, Huawei, Xiaomi, Garmin, and the list goes on). However, none are in as strong of a position as Apple was in a few years ago, let alone today. Apple’s wearables lead stands to grow further once the company enters face wearables. The next few years will likely dictate the power structure in wearables for the next 10 to 20 years. When it comes to competitors figuring out a way to slow Apple in wearables, it’s now or never.
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Above Avalon Podcast Episode 180: 100 Million Wrists
According to Neil’s estimate, 100 million people now wear an Apple Watch. This means that approximately 10% of iPhone users wear an Apple Watch. In episode 180, Neil discusses these installed base and adoption figures as part of a larger discussion regarding Apple Watch’s sales momentum, growth potential, and roles in Apple’s ecosystem
To listen to episode 180, go here.
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Apple Watch Is Now Worn on 100 Million Wrists
More than 100 million people wear an Apple Watch. Based on my estimates, Apple surpassed the important adoption milestone this past December. The Apple Watch has already helped usher in a new paradigm shift in computing, and Apple is still only getting started with what is possible on the wrist. New services designed specifically for Apple Watch (such as Fitness+) are being released. The wrist’s utility continues to be unveiled thanks to new hardware and software features revolving around health monitoring.
The Numbers
It took five-and-a-half years for the Apple Watch installed base to surpass 100 million people. As shown in Exhibit 1, the installed base’s growth trajectory has not been constant or steady over the years. Instead, the number of people entering the Apple Watch installed base continues to accelerate. The 30 million new people that began wearing an Apple Watch in 2020 nearly exceeded the number of new Apple Watch wearers in 2015, 2016, and 2017 combined.
Exhibit 1: Apple Watch Installed Base
The next exhibit takes a look at Apple Watch adoption as a percentage of the iPhone installed base. Since an iPhone is required to set up an Apple Watch, the iPhone installed base is a good proxy for the size of Apple Watch’s addressable market. There are a few exceptions to this such as Family Setup, which allows family members who don’t have iPhones to get set up with their own Apple ID and cellular Apple Watch.
Exhibit 2: Apple Watch Adoption Percentage (Global)
As of the end of 2020, approximately 10% of iPhone users were wearing an Apple Watch. This is a high percentage given the diverse technological wants and needs of those in the iPhone installed base.
Since the U.S. has been an Apple Watch stronghold for years, adoption in the country has trended materially high in comparison to global figures. At the end of 2020, approximately 35% of iPhone users in the U.S. were wearing an Apple Watch. This is a shockingly strong adoption rate that should serve as a wake-up call to Apple competitors interested in the wearables space. Apple Watch turned Fitbit from a household name as the wearables industry leader into a company that will eventually be viewed as an asterisk when the wearables story is retold to future generations.
(The calculations and methodology used to reach my Apple Watch installed base estimates is available here for Above Avalon members.)
Installed Base Comparisons
At 100 million users, the Apple Watch is Apple’s fourth-largest product installed base behind the iPhone, iPad, and Mac. At the current sales trajectory, the Apple Watch installed base will surpass the Mac installed base in 2022. Surpassing the iPad installed base will take longer and likely be measured in a number of years based on the current sales trajectory.
Growth Potential
While Apple Watch adoption figures point to a product gaining acceptance and appeal around the world, the same numbers also speak to the product’s sales growth potential. There is nothing stopping Apple Watch from grabbing much higher adoption over time. Stronger adoption will serve as an Apple Watch sales growth engine for years.
Running with a few simple calculations, if 35% of iPhone users around the world one day wear an Apple Watch, the same adoption percentage found in the U.S., the Apple Watch installed base would exceed 350 million people. That’s 2.5x larger than the current installed base.
Of course, a 35% adoption figure when looking at the iPhone installed base may end up selling the Apple Watch far short. There is nothing preventing Apple Watch from being worn by an even higher percentage of iPhone users. More importantly, the Apple Watch’s future is one of true independency from the iPhone. Opening the Apple Watch up to non-iPhone users would expand Apple Watch’s addressable market by 2.5x overnight. A 10% adoption figure among all smartphone users around the world would amount to 350 million people wearing an Apple Watch.
What’s Driving Adoption?
As for the factors behind Apple Watch’s steady growth in adoption, there are four primary ones:
Wearables Fundamentals. Leveraging new form factors and design (how we use the products), wearables are able to make technology more personal. People are attracted to Apple Watch’s ability to handle some tasks currently given to more powerful devices like iPhones and iPads as well as entirely new tasks. Given its design, there is nothing inherently found in wearables that limits its addressable market to the point of making it smaller than that of mobile devices. Instead, wearables are one of the rare product categories that can have an even larger addressable market than smartphones - a difficult feat given such high smartphone adoption figures.
Wrist’s Appeal. Everything from a great line of sight for displaying snippets of text and data, to an opportunity to successfully monitor activity and vital signs makes the wrist a valuable space for bringing utility to the body. By selling intangibles like prestige and wealth on the wrist, the Swiss watch industry ended up missing the wrist’s true value. Wrist real estate was being underpriced, and Apple capitalized on the mispricing with Apple Watch.
The Cool Factor. People want to be seen wearing an Apple Watch. The Apple Watch brand has evolved to become cool yet approachable. The device has wide appeal across gender, age, occupation, and social status. Apple Watch wearers are able to add customization to the wrist through various Watch band, case, and face / complications combinations. Thanks to Apple Watch’s comfortable bands, it’s easy to wear the device all day, every day.
Apple Ecosystem. One of the Apple Watch’s secrets to success is how it ends up being just one part of a much larger Apple ecosystem - an ecosystem that is unmatched in the industry. The ability to work seamlessly with other Apple wearables like AirPods as well as other devices ranging from iPhones to HomePods gives Apple Watch additional appeal and staying power in our lives. The ability to consume Apple Watch Services like Fitness+ on other Apple products helps to solidify Apple Watch’s positioning within the ecosystem.
Future Roles
When assessing Apple Watch’s future roles within Apple’s product line, three in particular jump out:
Identity Checker. Wrist detection allows the Apple Watch to maintain one’s identification chain as long as it remains in contact with the wearer’s skin. This is something that is difficult and cumbersome for other Apple devices to handle since they aren’t likely to be physically in contact with our bodies throughout the day. We already see Apple embrace this functionality by allowing Apple Watch to unlock Macs and most recently, iPhones. Going forward, the Apple Watch’s ability to serve as an identity checker can end up being used throughout our day as we interact with different devices, rooms, and objects.
Digital Health Purveyor. The Apple Watch is able to seamlessly monitor our health and alert us to things that we should know without overwhelming us with lots of data and information. This gives the Apple Watch a key role in our lives that would be difficult for other devices to handle.
Support Device for Face Wearables. While the face is home to some of the most valuable real estate on our bodies, it’s not an ideal place for storing a lot of technology. In order for face wearables to go mainstream, devices as light, thin, and comfortable as a regular pair of glasses are needed. Not surprisingly, this is proving to be a difficult engineering problem to solve. The Apple Watch allows technology required for computing on the face to be placed in a far more convenient location on the body.
A Successful Bridge
Back in early 2018, I called the Apple Watch a bridge to the future - a device that was still very much based on our current user interface repertoire but beginning to lay the groundwork for the future when it comes to greater reliance on voice, audio, and digital identity. At the time, in the Above Avalon article, “Apple Watch Is a Bridge to the Future,” I wrote the following:
“Apple has a vision for how we will use the combination of voice and screens in the future. Unlike Amazon and Google, who are desperately trying to position voice as a way to leapfrog over the current smartphone/tablet and app paradigm, Apple is approaching things from a different angle. Instead of betting on a voice interface that may push some information to a stationary screen, Apple is betting on mobile screens that are home to a digital assistant. Apple is placing a bet that consumers will want the familiarity of a touch screen to transition to a future of greater AI and digital assistants. In addition, Apple thinks user manipulation via screen (fingers, hands, and eyes) will remain a crucial part of the computing experience for the foreseeable future.”
Three years later, I wouldn’t change a word in that paragraph. This scenario has materialized. In addition, the fact that Apple Watch is not a futuristic device struggling to handle tasks that we currently have has given the device a good portion of its appeal and momentum over the past five years. With Apple Watch now worn on more than 100 million wrists, Apple can turn to the next Apple Watch adoption goal: 200 million wrists.
Listen to the corresponding Above Avalon podcast episode for this article here.
Receive my analysis and perspective on Apple throughout the week via exclusive daily updates (3 stories per day, 12 stories per week). Available to Above Avalon members. To sign up and for more information on membership, visit the membership page.
For additional discussion on this topic, check out the Above Avalon daily update from January 16th.
The Rise of Smaller Displays
Apple is a design company selling tools capable of improving people’s lives. Approximately 80% of those tools include a display. Apple is shipping about 300 million displays per year, from iPhones and iPads to Macs and Apple Watches. With Apple running as fast it can towards AR glasses, the number of displays that the company ships will only increase over the next five to ten years. While the pandemic is pushing people to embrace larger displays like iPads and Macs, the momentum found with smaller displays is still flying under the radar.
Display Spectrum
Back in 2017, I published the following chart that tracks Apple device unit sales by display size. The exercise involved breaking out iPhone, iPad, and Mac unit sales by model - something that Apple has never done itself but which the company provided enough clues for me to do on my own and have confidence in the estimates.
Exhibit 1: Apple Device Sales Mix by Display Size (2016 data)
Since Apple offers a finite number of display choices, Exhibit 2 turns the sales data from Exhibit 1 into a broader statement about preferred display size.
Exhibit 2: Apple Device Sales Mix by Display Size (2016 data - Smoothed Line)
The motivation in pursuing such an exercise was to place context around the number of large displays Apple was selling in the form of MacBooks and iMacs. Fast forward three years, and it’s time to revisit the topic. With the significant amount of change occurring in Apple’s product line since 2016, there is value in going through a similar exercise regarding display size preference with 2020 unit sales in mind. While Apple’s financial disclosures haven’t gotten better over the past four years - if anything, the disclosures have gotten worse - I am still confident in my ability to derive unit sales estimates for all of Apple’s products.
Exhibit 3: Apple Device Sales Mix by Display Size (2020 data)
Exhibit 4: Apple Device Sales Mix by Display Size (2016 data - Smoothed Line)
(All of my granular estimates and modeling that went into Exhibits 3 and 4 is available to Above Avalon members in the daily update published on December 7th found here.)
As seen in Exhibits 3 and 4, there is bifurcation in Apple display size popularity. The most in-demand displays fall into two (broad) categories:
Displays large enough for consuming lots of video and other forms of content that can still be comfortably held in a hand or stored in a pocket.
Displays small enough to be worn on the body (Apple Watch) and products lacking a display altogether (AirPods).
It hasn’t been difficult to miss Apple’s gradual move to larger iPhone displays over the years. The 6.7-inch iPhone 12 Pro Max is getting close to the maximum size for an iPhone display, at least when thinking about the current form factor. Such a reality has undoubtedly played a role in some smartphone manufacturers betting heavily on foldable displays for smartphones. Such a bet boils down to believing consumers will want larger smartphone screens to the point of being OK with tradeoffs in terms of device thickness and weight. Move beyond the iPhone and display popularity plummets as the iPad and Mac sell at a fraction of the pace. There are small sales peaks found at 10.2 inches, the size of the lowest-cost iPad, and 13.3 inches, the size of the MacBook Air and entry-level MacBook Pro.
With hundreds of millions of people embracing 4.7-inch to 6.7-inch displays via iPhone, the claim that consumers are embracing larger screens over time contains some validity. Many are now wondering if similar moves to larger displays will take over the iPad and Mac lines. However, focusing too much on large displays will make it easy to miss what is happening at the other end of the spectrum. The rise of wearables has given an incredible amount of momentum to small displays and devices lacking a display altogether.
Implications
There are four key implications arising from this display bifurcation observation.
Apple’s ecosystem naturally supports the idea of multi-device ownership.
As devices are given more roles and workflows to handle, there is a natural tendency for screen sizes to increase without changing the overall form factor much.
Power and value are flowing to smaller displays that are capable of making technology more personal.
Devices relying on voice as an input make more sense when paired seamlessly with devices with displays.
It is worth going over each in greater detail.
1) Apple’s ecosystem is characterized by hundreds of millions of iPhone-only users buying additional Apple products and services. This is a result of industry-leading customer satisfaction rates and subsequently very strong brand loyalty. However, there are more fundamental themes underpinning this trend. By controlling hardware, software, and services, Apple is able to sell a range of products that seamlessly work together. These tools don’t serve as replacements for one another but rather as alternatives. This leads to consumers being able to use multiple Apple devices aimed at handling different workflows in their unique way. Such a dynamic supports the idea of multi-device ownership over time with those additional Apple devices likely containing smaller displays or no displays at all.
2) Apple has given the iPad, iPhone, and Apple Watch larger displays over time. For the iPad, the 12.9-inch / 11-inch iPad Pro and 10.9-inch iPad Air are larger than the initial 9.7-inch iPad and subsequent 7.9-inch iPad mini. The 3.5-inch display found with the first few iPhone models looks downright tiny next to iPhone 12 flagships. Even the Apple Watch was given a larger display after being sold for three years. These moves may seem to be unnoteworthy reactionary outcomes to competitors and market forces. However, the move to larger displays over time ends up being connected to the product category handling more workflows over time. iPhones have become “TVs” for hundreds of millions of people. Today’s iPad Pro flagships are geared toward content creation. Apple Watch faces are being given more complications in order to provide additional new-age app interactions to wearers.
3) The two product categories seeing the strongest unit sales momentum have either the smallest displays Apple has shipped (Apple Watch) or no displays at all (AirPods). As wearables usher in a paradigm shift in computing by altering the way we use technology, new form factors designed to be worn on or in the body for extended periods of time are playing a role in helping to make technology more personal. This leads to an observation that may not be so obvious: Smaller displays require new user inputs and interfaces that force new ways of handling existing workflows while supporting entirely new workflows. Said another way, smaller displays end up playing a vital role in lowering the barriers between technology and humans.
4) The reason stationary smart speakers were one of the biggest tech head fakes of the 2010s is that consensus incorrectly assumed the future was voice and just voice. The idea of voice as a user input being enhanced by the presence of a display was skipped over. Jump ahead a few years and the HomePod is arguably made better by having nearby displays either simply around us (iPhones) or on us (Apple Watch). Some of the magic found with AirPods involves the seamless integration with various displays, especially the Apple Watch display. Voice just isn’t an efficient medium for transferring a lot of data and context. Relying on displays for such context makes it possible for devices without displays to shine by being allowed to do what they do best - either provide superior sound (HomePod) or convenient sound (AirPods).
Bet on Smaller Displays
One takeaway from the pandemic has been that social distancing in the form of distance learning and working from home has fueled momentum for some of the largest displays in Apple’s product line. The iPad is setting multi-year highs for unit sales and revenue. The Mac registered an all-time revenue record last quarter. There are a few reasons behind this momentum that include families needing newer (and faster) machines and employers funding work-from-home upgrades.
Instead of looking at this development as the start of a new era for large displays, the momentum found with larger displays shifts focus away from the actual revolution taking place with smaller displays.
Apple is on track to sell approximately 150M devices in FY2021 that either lack a display or contain a display that is less than two inches (5 cm). We are still in the early innings of this revolution. Looking ahead at AR glasses, Apple will eventually sell devices containing two small displays for the first time. Relying on conservative adoption estimates, Apple will sell hundreds of millions of devices per year that contain either small displays or no displays at all. We are seeing the rise of smaller displays, and the secret to witnessing it is knowing where to look.
Listen to the corresponding Above Avalon podcast episode for this article here.
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A Billion iPhone Users
A billion people now have iPhones. According to my estimate, Apple surpassed the billion iPhone users milestone last month. Thirteen years after going on sale, the iPhone remains the perennial most popular and best-selling smartphone. Competitors continue to either shamelessly copy iPhone or, at a minimum, be heavily influenced by the iPhone. Looking ahead, Apple’s top priorities for the iPhone include finding ways to keep the device at the center of people’s lives while at the same time recognizing the paradigm shift ushered in by wearables.
iPhone Sales
Over the past two years, iPhone sales have experienced notable gyrations. In early 2019, Apple saw material weakness in iPhone sales due to deteriorating economic conditions in China related to U.S. trade tensions. Although Tim Cook faced some skepticism when making such a claim, the observation was later proven to be legitimate as a number of other companies went on to describe a similar slowdown in demand.
As shown in Exhibit 1, iPhone unit sales on a trailing twelve months basis dropped by about 12% in early 2019 from a 218 million annual pace to a 191 million pace. The iPhone business went on to experience a gradual improvement in sell-through (i.e. customer) demand during the second half of 2019 and the beginning of 2020 before the pandemic hit. iPhone unit sales are back above a 200 million annual pace and are currently 13% below the unit sales high experienced in 2015.
Exhibit 1: iPhone Unit Sales (TTM Basis)
At a glance, Exhibit 1 would suggest that the iPhone business has lost some of the shine it had in the mid-2010s. However, this would be a misreading of the situation. On its own, unit sales don’t tell us the full story about the iPhone business. This is the primary reason behind Apple’s decision in late 2018 to stop providing unit sales data on a quarterly basis. Wall Street was incorrectly using unit sales as a crutch for shoddy analysis.
Flat to down iPhone unit sales do not automatically mean iPhone business fundamentals have deteriorated. Instead, a longer upgrade cycle can be a leading factor behind declining unit sales. In addition, unit sales don’t say anything about customer loyalty and satisfaction rates, which are crucial when it comes to a customer’s decision to continue using a product.
In order to reach more valuable insights regarding the iPhone business, Exhibit 2 takes unit sales data from Exhibit 1 and adds granularity. Instead of looking at sales just in terms of the number of units shipped from a factory, Exhibit 2 takes into account who bought iPhones: customers upgrading to a new iPhone or customers buying their first new iPhone. The data is derived from my iPhone installed base model that tracks when customers entered the installed base and then monitors upgrading patterns.
Exhibit 2: iPhone Unit Sales Mix (iPhone Upgraders vs. New Users to iPhone)
The iPhone business has turned into an upgrading business. While Apple is still bringing in 20M to 30M new iPhone users each year, the percentage of overall iPhone sales going to new users has steadily declined. For FY2020, iPhone sales to new users will likely have accounted for less than 20% of overall iPhone sales - an all-time low.
iPhone Installed Base
While quarterly iPhone unit sales contain an inherent amount of volatility, installed base totals do a better job of monitoring iPhone fundamentals over the long run. The iPhone installed base is defined as the total number of people using an iPhone (both new and used iPhones). A shrinking iPhone installed base would raise a number of warning signs for Apple as it would suggest people have been switching to Android. A growing iPhone installed base would suggest Apple continues to see new users embrace the iPhone for the first time.
Two variables are needed to estimate and track the iPhone installed base:
The number of people who purchase (and continue to use) a new iPhone from Apple or a third-party retailer.
The number of people who are using an iPhone obtained via the gray market. These iPhones have either been passed down through families and friends or resold to new users via a web of retailers and distributors.
By combining the two groups, one is able to derive estimates for the total number of iPhones in the wild. Although Apple does not disclose this installed base figure on a quarterly basis, the company did mention that the iPhone installed base surpassed 900M devices by the end of FY1Q19. As shown in Exhibit 3, which displays my estimates for the Apple installed base over the years, the iPhone installed base has grown each year since launch and recently surpassed a billion people.
(The methodology used to reach my iPhone installed base estimates is available here for Above Avalon members.)
Exhibit 3: iPhone Installed Base (total number of iPhone users in the wild)
In recent years, the pace of growth in the iPhone installed base has slowed. Much of this slower growth is due to high smartphone penetration and Apple having already successfully targeted the premium end of the smartphone market. With that said, Apple is still bringing in approximately 20M to 30M new iPhone users per year. These users are prime candidates for moving deeper into the Apple ecosystem by purchasing other Apple devices and services. Strong growth trends seen with iCloud storage, Apple’s content distribution services, Apple Watch, AirPods, and even iPad / Mac are made possible by hundreds of millions of people moving beyond just an iPhone to own additional Apple services and devices.
iPhone Priorities
Looking ahead, Apple has three primary priorities, or goals, for the iPhone:
Push camera technology boundaries.
Increase the value found with iPhone ownership.
Increase the number of roles handled by the iPhone.
Cameras. When thinking about the iPhone feature that will lead the way over the next five to ten years, more powerful cameras are high on the list. For the past few years, camera improvements and upgrades have been positioned as the top feature found with new flagship iPhones. A similar trend has been found with every major smartphone manufacturer. This has led to a type of camera arms race as each company tries to convince consumers that they have the best camera.
The primary reason Apple and its peers are betting so big on cameras is that they are convinced consumers will find value in smarter “eyes" - cameras that increasingly move into 3D rendering and AR realms. Advances in computational photography are also leveraged to make it easier for people to take really great photos.
While a bet on the camera will turn out to be a good one for Apple, the move doesn’t lack risk. As Apple pushes camera technology forward, many existing iPhone users are content with the iPhone camera they already own. This will manifest itself in no discernible bump in iPhone upgrading simply due to camera upgrades and advancements.
Another factor behind betting big on iPhone camera technology is that the smartphone form factor remains conducive to bringing powerful cameras to the mass market. While a “selfie” camera may make sense on the wrist with Apple Watch, it is difficult to see the wrist as a good place for cameras used to capture memories. There is similar hesitation found with the idea of putting such powerful cameras on the face in the form of AR glasses. Therefore, it makes sense that the device held in our hands and stored in our pockets will likely contain the most powerful camera in our lives.
iPhone Value. A major development regarding the iPhone that continues to fly under the radar is the improving value proposition found with owing and using an iPhone. By improving iPhone durability and longevity, Apple ends up strengthening the iPhone’s value proposition via higher resale values. If a new iPhone can be recirculated to additional users, the gray market will be strengthened and consumers will find more attractive payment terms and options at time of purchase.
An increasing number of iPhone users think about iPhone pricing in terms of monthly payments rather than lump sum. Attractive trade-in offers and payment plans with built-in upgrades only serve to improve the iPhone’s value proposition.
iPhone Roles. Tim Cook kicked off Apple’s “Hi, Speed” product event earlier this month by referring to the iPhone as the product we use the most, every day. He went on to say that the iPhone has never been more indispensable than it is now.
It is in Apple’s best interest to have the iPhone take over an increasing number of roles once given to laptops and desktops in addition to handling entirely new roles. By increasing our dependency on iPhone today, Apple ends up being in a better position to sell various wearable form factors tomorrow. Wearables are designed to not only handle entirely new tasks, but also take over tasks given to the iPhone.
Peak iPhone?
In FY2015, Apple sold 231 million iPhones. There continues to be a debate regarding whether or not Apple experienced “peak iPhone,” never exceeding that 231 million unit sales total in a 12-month stretch.
As a general rule, one needs to approach “peak” sales claims very carefully with Apple products. It may be tempting to look at unit sales data and conclude that a lower sales trend won’t reverse. However, weaker sales may not be the result of a change in market fundamentals such as a permanently reduced addressable market or less capable product. Instead, lower sales may simply reflect a slowdown in upgrading.
Odds are increasing that Apple has not experienced peak iPhone. As shown in Exhibit 4, my FY2021 iPhone unit sales estimate stands at 240M units, 4% higher than Apple’s previous iPhone sales record. My estimate does not assume a mega upgrade cycle kicked off by 5G iPhones. With the iPhone installed base having surpassed a billion users and continuing to expand by 20M to 30M people each year, Apple is in a good position to grow iPhone unit sales as the iPhone upgrade cycle plateaus between four and five years. This is where iPhone’s strong resale value enters the picture with consumers embracing various upgrading plans and options made possible by a well-functioning gray market.
Exhibit 4: iPhone Unit Sales (TTM Basis) - Includes Above Avalon FY2021 Estimates
New User Generation
The iPhone was the largest contributor to Apple growing its overall installed base from 125 million people in 2010 to more than a billion in 2020. Looking ahead, it’s fair to wonder if the iPhone will remain Apple’s primary new user funnel for the next billion users.
A strong case can be made that Apple will continue to rely on the iPhone for new user generation in the near term. While flagship iPhone pricing is aimed at the premium segment of the market, the gray market continues to play its role in expanding the iPhone’s reach to lower price segments.
Apple is also getting that much closer to launching its face wearables strategy. Requiring early versions of face wearables (AR / VR glasses) to work with an iPhone is logical when thinking about the limited amount of space for technology found with a pair of thin and light glasses.
Over time, we can’t ignore the new user growth potential found with Apple wearables. Apple Watch remains on its march to full independency from the iPhone. A truly independent Apple Watch would expand the product’s address market by threefold. AirPods are similarly well-positioned for appealing to Android users around the world. This brings us to India. The country will likely play a crucial role in Apple’s strategy of bringing hundreds of millions of new people into the ecosystem. As wearables make technology more personal, the product category’s addressable market will only expand.
While the iPhone may have been responsible for Apple getting to a billion users, wearables have a decent shot of getting Apple to two billion users.
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Apple Watch Momentum Is Building
In a few months, the number of people wearing an Apple Watch will surpass 100 million. While the tech press spent years infatuated with stationary smart speakers and the idea of voice-only interfaces, it was the Apple Watch and utility on the wrist that ushered in a new paradigm shift in computing. We are now seeing Apple leverage the growing number of Apple Watch wearers to build a formidable health platform. The Apple Watch is a runaway train with no company in a position to slow it down.
Mirages and Head Fakes
We are coming off of a weird stretch for the tech industry. As smartphone sales growth slowed in the mid-2010s, companies, analysts, and pundits began to search for the next big thing. The search landed on stationary smart speakers and voice interfaces.
Companies who weren’t able to leverage the smartphone revolution with their own hardware placed massive bets on digital voice assistants that would supposedly usher in the end of the smartphone era. These digital voice assistants would be delivered to consumers via cheap stationary speakers placed in the home. Massive PR campaigns were launched that attempted to convince people about this post-smartphone future. Unfortunately for these companies, glowing press coverage cannot hide a product category’s fundamental design shortcomings.
At nearly every turn, Apple was said to be missing the voice train because of a dependency on iPhone revenue. Management was said to suffer from tunnel vision while the company’s approach to privacy was positioned as a long-term headwind that would lead to inferior results in AI relative to the competition. Simply put, Apple was viewed as losing control of where technology was headed following the mobile revolution.
There were glaring signs that narratives surrounding smart speakers and Apple lacking a coherent strategy for the future were off the mark. In November 2017, I wrote the following in an article titled, “A Stationary Smart Speaker Mirage”:
“On the surface, Amazon Echo sales point to a burgeoning product category. A 15M+ annual sales pace for a product category that is only three years old is quite the accomplishment. This has led to prognostications of stationary smart speakers representing a new paradigm in technology. However, relying too much on Echo sales will lead to incomplete or faulty conclusions. The image portrayed by Echo sales isn't what it seems. In fact, it is only a matter of time before it becomes clear the stationary home speaker is shaping up to be one of the largest head fakes in tech. We are already starting to see early signs of disappointment begin to appear…
I don’t think stationary smart speakers represent the future of computing. Instead, companies are using smart speakers to take advantage of an awkward phase of technology in which there doesn’t seem to be any clear direction as to where things are headed. Consumers are buying cheap smart speakers powered by digital voice assistants without having any strong convictions regarding how such voice assistants should or can be used. The major takeaway from customer surveys regarding smart speaker usage is that there isn’t any clear trend. If anything, smart speakers are being used for rudimentary tasks that can just as easily be done with digital voice assistants found on smartwatches or smartphones. This environment paints a very different picture of the current health of the smart speaker market. The narrative in the press is simply too rosy and optimistic.
Ultimately, smart speakers end up competing with a seemingly unlikely product category: wearables.”
Three years later, I wouldn’t change one thing found in the preceding three paragraphs. The smart speaker bubble popped less than 12 months after publishing that article. The product category no longer has a buzz factor, and despite the hopes of Amazon and Google, people are not using stationary speakers for much else besides listening to music and rudimentary tasks like setting kitchen timers.
The primary problem found with voice is that it’s not a great medium for transferring a lot of data, information, and context. As a result, companies like Amazon have needed to dial back their grandiose vision for voice-first and voice-only paradigms. Last week’s Amazon hardware event highlighted a growing bet on screens – a complete reversal from the second half of the 2010s.
Betting on the Wrist
As companies who missed the smartphone boat were placing bets on stationary speakers, Apple was placing a dramatically different bet on a small device with a screen. This device wouldn’t be stationary but instead push the definition of mobile by being worn on the wrist.
Jony Ive, who is credited with leading Apple’s push into wrist wearables, referred to the wrist as “the obvious and right place” for a different kind of computer.
When Apple unveiled the Apple Watch in 2014, wearable computing on the wrist was more of a promise than anything else. Apple created an entirely new industry – something that isn’t found much in the traditional Apple playbook.
After years of deep skepticism and cynicism, consensus reaction towards Apple Watch has changed and is now positive. Much of this is due to the fact that it’s impossible to miss Apple Watches appearing on wrists around the world. According to my estimates, approximately 35% of iPhone users in the U.S. now wear an Apple Watch. This is a shockingly high percentage for a five-year-old product category, and it says a lot about how Apple’s intuition about the wrist was right.
Apple Watch Installed Base
The number of people wearing an Apple Watch continues to steadily increase. According to my estimate, there were 81 million people wearing an Apple Watch as of the end of June. According to Apple, 75% of Apple Watch sales are going to first-time customers. This means that 23 million people will have bought their first Apple Watch in 2020. To put that number in context, there are about 25 million people wearing a Fitbit. The Apple Watch installed base is increasing by the size of Fitbit’s overall installed base every 12 months. Exhibit 1 highlights the change in the Apple Watch installed base over the years.
Exhibit 1: Apple Watch Installed Base (number of people wearing an Apple Watch)
(The calculations and methodology used to reach my Apple Watch installed base estimates is available here for Above Avalon members.)
Deriving Power
From where is Apple Watch deriving its momentum? The answer is found in The Grand Unified Theory of Apple Products.
One of the core tenets of my theory is that an Apple product category's design is tied to the role it is meant to play relative to other Apple products. The Apple Watch is designed to handle a growing number of tasks once given to the iPhone. Meanwhile, the iPhone is designed to handle a growing number of tasks given to the iPad. One can continue this exercise to cover all of Apple's major product categories.
Apple Watch is not an iPhone replacement because there are things done on an iPhone that can't be done on an Apple Watch. This ends up being a feature, not a bug. The Apple Watch’s design then allows the product to handle entirely new tasks that can’t be handled on an iPhone. This latter attribute goes a long way in explaining how Apple Watch has helped usher in a new paradigm shift in computing. Apple Watch wearers are able to interact with technology differently.
(More on The Grand Unified Theory of Apple Products is found in the Above Avalon Report, “Product Vision: How Apple Thinks About the World,” available here for Above Avalon members.)
A Health Platform
In January 2019, Tim Cook surprised many by saying Apple will be remembered more for its contributions to health than for any other reason. Here’s Cook:
“I believe, if you zoom out into the future, and you look back, and you ask the question, ‘What was Apple’s greatest contribution to mankind?’ it will be about health.”
Many assumed that Cook’s comment hinted at Apple unveiling a portfolio of medical-grade devices that would go through the FDA approval process. Such thinking was based on a fundamental misunderstanding of Apple’s ambition and approach to product development.
Apple’s health strategy is based on leveraging hardware, software, and services to rethink the way we approach health. This means Apple wasn’t going to just launch a depository for our health data – something that is needed but which ultimately falls short of being truly revolutionary. In addition, Apple wasn’t going to just offer health and fitness services that amount to counting steps or keeping track of miles run.
By the time Cook gave his bullish comment about health, Apple had already placed its big bet on health four years earlier by unveiling the Apple Watch. In what ended up being one of Apple’s best decisions, the company avoided going the route of medical-grade devices requiring government agency approval to reach consumers. Instead, Apple framed its health platform as a new-age computer that ultimately is an iPhone alternative.
Health monitoring is one of the key new tasks that the Apple Watch, not iPhone, handles. To be more precise, Apple Watch is handling the following four health-related items:
Proactive monitoring (i.e. heart rate and blood oxygen)
Well-being assistance (i.e. sleep monitoring including the runup to sleep)
Fitness and activity tracking (i.e. Activity and Workout apps)
Fitness and health activity (i.e. Apple Fitness+)
With Apple Fitness+, Apple didn’t just release a virtual fitness class service. Instead, Apple Fitness+ is an Apple Watch service. In some ways, Apple Fitness+ reminds me of Apple TV+. A future in which Fitness+ workouts are available on third-party gym equipment displays including on treadmills and stationary bikes is not a stretch. In addition, classes from other companies such as Nike could further elevate Apple Fitness+.
Competition
If the Apple Watch is a runaway train, there is no obvious candidate in a position to stop or even slow the train. While other companies are slowly waking up and seeing the momentum found with Apple Watch, there is still much indifference, mystery, and misunderstanding as to why people are buying wearables. Too many companies still think of wearables as glorified smartphone accessories. Such thinking makes it impossible for competitors to see how Apple Watch is ushering in a paradigm shift in computing by making technology more personal in a way that other devices have failed to accomplish or replicate.
One of the main takeaways from Apple’s product event earlier this month is how Apple is its own toughest competitor. The Apple Watch’s most legitimate competition is found with older Apple Watches and non-consumption (i.e. empty wrists). While this introduces its own set of risks and challenges, there is still no genuine Apple Watch competition from other companies after six years. This is an indication of the power found in controlling your own hardware, software, and services in order to get more out of technology without having technology take over people’s lives.
Listen to the corresponding Above Avalon podcast episode for this article here.
Receive my analysis and perspective on Apple throughout the week via exclusive daily updates (2-3 stories per day, 10-12 stories per week). Available to Above Avalon members in both written and audio forms. To sign up and for more information on membership, visit the membership page.
For additional discussion on this topic, check out the Above Avalon daily update from October 1st.
Apple's Ecosystem Growth Is Accelerating
The two most recent Above Avalon articles took a look at how and why Apple’s ecosystem is giving the company a major advantage against the competition.
With Apple reporting 3Q20 earnings two weeks ago, there is value in quantifying how much Apple’s ecosystem is growing. The data should startle the competition. Apple is seeing a clear acceleration in its ecosystem growth as hundreds of millions of iPhone-only users move deeper into the Apple fold by subscribing to various services and buying additional products.
Measuring Ecosystem Growth
There are a number of ways one can attempt to track or measure Apple’s ecosystem growth.
Number of devices per user
Number of paid subscriptions per user
In covering Apple’s business from a financial perspective, my modeling work includes keeping up-to-date estimates for most of the preceding data points. However, there is one metric missing from the list that may come as a surprise: overall revenue. Considering Apple provides this data point every three months, such an exclusion may seem peculiar. Wouldn’t Apple revenue shed light on how the Apple ecosystem is performing?
Relying on overall revenue for analyzing Apple’s ecosystem growth will lead to faulty conclusions. In Exhibit 1, Apple’s revenue is graphed on a trailing twelve months (TTM) basis. This is done to smooth out the seasonality found in Apple’s business (i.e. sales are concentrated around the holidays). The takeaway from the exhibit is that higher revenue demonstrates Apple’s ecosystem continues to grow although the rate of growth has slowed dramatically.
There is one problem with such a takeaway: It’s wrong.
Exhibit 1: Apple Revenue (TTM)
Click / tap exhibit to enlarge.
Overall revenue trends are masking what is actually occurring with Apple’s ecosystem. In FY2019, the iPhone was responsible for 55% of Apple’s overall revenue. On its own, that’s not an issue for Apple. The iPhone is part of Apple’s ecosystem after all. However, Apple has become increasingly dependent on existing users upgrading their devices to generate iPhone revenue. This has resulted in Apple’s overall revenue being heavily influenced by iPhone upgrading trends.
During periods of robust iPhone upgrading, Apple’s overall revenue shows stronger growth. When iPhone upgrading slows, overall revenue growth also slows to the point that Apple’s ecosystem may appear to be plateauing or even contracting (as seen in Exhibit 1). This was a major issue at the end of 2018 and early 2019 as slowing iPhone upgrades led many to conclude that Apple was in big trouble in China and other geographies.
Since iPhone upgrading trends have little to no direct impact on Apple ecosystem viability or strength, a better approach to get insights on Apple’s ecosystem growth is to divide Apple’s revenue into two categories:
iPhone
non-iPhone (Services, Mac, iPad, Wearables, Home, and Accessories)
As seen in Exhibit 2, breaking Apple’s overall revenue into iPhone and non-iPhone revenue leads to a completely different view of Apple’s growth trajectory. Non-iPhone revenue (the red line) continues to demonstrate very strong momentum while iPhone revenue (the blue line) is trending at the same level that it was in 2015.
Exhibit 2: Revenue (iPhone vs. Non-iPhone) - TTM
Click / tap exhibit to enlarge.
A different way of looking at this data is to consider revenue growth rates. Using the revenue figures from Exhibit 2, we are able to create Exhibit 3, which displays year-over-year change in revenue for both iPhone and non-iPhone.
Non-iPhone revenue growth (the red line) has outpaced iPhone revenue growth (the blue line) for the past seven quarters. The higher growth rates for iPhone revenue in 2018 were due to higher iPhone ASPs caused by Apple unveiling the iPhone X. Excluding those quarters, non-iPhone revenue growth has been trending stronger than iPhone growth since 2016. This is a sign that Apple’s underlying ecosystem strength has been gaining momentum for years - it’s just been masked by people holding on to their iPhones for longer before upgrading.
Exhibit 3: Revenue Growth YOY (iPhone vs. Non-iPhone) - TTM
Click / tap exhibit to enlarge.
What is driving the non-iPhone revenue strength shown in Exhibits 2 and 3? The answer is found in the strong iPhone revenue trends from a few years ago. Years of strong new user growth driven by the iPhone is now contributing to hundreds of millions of iPhone-only users moving deeper into the Apple ecosystem. This trend began in earnest around the beginning of 2017.
The Services Myth
Some may look at the preceding exhibits and say that the data is still incomplete. Apple Services include a number of recurring revenue streams such as iCloud, Apple Music, and various paid subscriptions. Given the recurring nature of something like paid iCloud storage, it ends up being easier for Apple to report year-over-year Services growth. Apple’s Services business accounts for 40% of non-iPhone revenue. There is a different dynamic found with hardware revenue. Since hardware isn’t a recurring revenue stream, year-over-year growth ends up being that much harder to achieve as Apple is in effect needing to replace every dollar of revenue with new sales.
(One can argue something like the iPhone Upgrade Program is a recurring revenue stream for hardware. However, that ends up being a stretch. The Upgrade Program is a loan with a built-in upgrade optionality after the 12th payment. That is very different than something like an iCloud or Apple Music subscription.)
To address this issue, non-iPhone revenue can be broken out into Services and Products (excluding iPhone). In what will come as a shock to many people, Exhibits 4 and 5 show how Products revenue excluding iPhone (i.e. iPad, Mac, Wearables, Home, and Accessories) is now growing at nearly the same pace as Services. This represents a major narrative violation as consensus spent years positioning Services as Apple’s growth engine.
Exhibit 4: Revenue (Apple Services vs. Apple Products Excluding iPhone) - TTM
Click / tap exhibit to enlarge.
Exhibit 5: Revenue Growth YOY (Apple Services vs. Apple Products Excluding iPhone) - TTM
Click / tap exhibit to enlarge.
Based on Apple management commentary, we know that upgrading is not impacting the iPad, Mac, and wearables as much as the iPhone. Approximately half of people buying iPads and Macs are new to the product categories. For Apple Watch, the percentage is more than 75%. The new user percentage for iPhone sales is a fraction of those percentages. This tells us that iPad, Mac, and wearables sales are a very good indicator of Apple ecosystem strength.
Tying It All Together
One way of thinking about the Apple ecosystem is to view it as a pie. There are two ways for Apple to expand the pie: Bring in more customers and have existing customers spend more on services and products in the ecosystem (higher ARPU).
New users entering the ecosystem - The iPhone SE should not be underestimated as a successful tool for bringing Android users into the Apple fold.
Existing users moving deeper into the ecosystem - iPhone users are buying iPads, Macs, and wearables as well as subscribing to various Apple services.
Apple currently finds itself in an ecosystem expansion phase. Hundreds of millions of people with only one Apple device - an iPhone - are embarking on a search for more Apple experiences. We see this with non-iPhone revenue growing by 14% in 3Q20 on a TTM basis, which is higher than growth rates seen in the mid-2010s, as seen in Exhibit 6.
Exhibit 6: Apple Non-iPhone Revenue Growth Projection
Click / tap exhibit to enlarge.
Looking ahead, my estimates have non-iPhone revenue accelerating from 14% growth to 20% growth in the coming quarters. iPad, Mac, and wearables are a major source of that growth acceleration. Considering how Apple is working off of a much larger revenue base, for revenue growth percentages to actually increase this far along in the process is intriguing. The takeaway is that Apple’s ecosystem is gaining momentum at a pace that should frighten the competition.
Hundreds of millions of people will be buying their first Apple wearable device in the coming years. Given the inherent nature of wearable devices - new form factors designed to make technology more personal - it is very likely that one Apple wearable purchase will eventually lead to additional Apple wearable purchases. Apple can then leverage high-margin Services to run with more aggressive pricing on wearables (and other Apple devices) which only ends up boosting demand.
Listen to the corresponding Above Avalon podcast episode for this article here.
Receive my analysis and perspective on Apple throughout the week via exclusive daily updates (2-3 stories per day, 10-12 stories per week). Available to Above Avalon members in both written and audio forms. To sign up and for more information on membership, visit the membership page.
For additional discussion on this topic, check out the Above Avalon daily update from August 13th.
The Secret to Apple's Ecosystem
Apple’s ecosystem remains misunderstood. While consensus has come around to accepting the sheer size of Apple’s ecosystem (a billion users and nearly 1.6 billion devices), there is still much unknown as to what makes the ecosystem tick. From what does Apple’s ecosystem derive its power? Why do loyalty and satisfaction rates increase as customers move deeper into the ecosystem? Apple’s ecosystem ends up being about more than just a collection of devices or services. Apple has been quietly building something much larger, and it’s still flying under the radar.
Products
No company is able to match Apple in offering a cohesive and strategically forward-looking product line. Computers small and light enough to be worn on the body are sold next to computers so large that built-in handles are required. More impressively, all of these products are designed to work seamlessly together.
The Grand Unified Theory of Apple Products outlines how each of Apple’s major product categories is designed to help make technology more personal - to reduce the barriers that exist between technology and the user.
Products are designed to handle tasks once handled by more powerful siblings. New form factors are then able to handle new tasks in unique and different ways. It is the pursuit of making technology more personal that ends up being responsible for devices like Apple Watch and AirPods. The same dynamic is also paving the way for Apple to eventually sell wearables for the face in the form of smart glasses. (More on The Grand Unified Theory of Apple Products is found in the Above Avalon Report, “Product Vision: How Apple Thinks About the World,” available here for Above Avalon members.)
With 1.6 billion devices in use, it may be natural to conclude that devices are the source of Apple’s ecosystem power. This has led some to position the iPhone as the sun in Apple’s ecosystem with other products being the planets revolving around the sun. However, this is a misread of the role Apple devices are actually playing in the ecosystem. Just because the iPhone is used by more people than any other Apple device, it is incorrect to assume that will always be the case, or more importantly, that other devices are in some way inferior to the iPhone when it comes to handling workflows. There is something much larger at play here than just a billion users enjoying Apple hardware.
Services
With a $55 billion revenue annual run rate and 518 million paid subscriptions across its platforms, there is no longer a debate as to Apple’s ability to succeed with services. However, there is still a lack of consensus as to what role services play in Apple’s ecosystem. Decisions like bringing Apple Music to third-party speakers and the Apple TV app to third-party TV sets have confused many with some going so far as to conclude that Apple’s future is one of a services company.
In such a world, Apple devices lose much of their value to cheap third-party hardware. This school of thought is responsible for claims that Apple gave up selling accessories like the Apple TV box and HomePod because customers can access Apple content distribution services on cheaper non-Apple hardware. It’s difficult to think of a bigger misread of how Apple thinks and operates as a company than to claim that Apple’s future is one of a services company.
There are now others who look at Apple’s financial success with services as a negative - a sign of Apple milking existing users of as much profit as possible. This school of thought positions paid services as a long-term liability to the Apple ecosystem.
A Toolmaker
While consensus credits products (hardware) as the source of Apple’s ecosystem power, services are increasingly viewed as a hidden risk factor that can crack holes in the ecosystem. Neither are true. Nearly a billion people are not using iPhones simply because they enjoy the hardware. Vice-versa, having 518 million paid subscriptions is not a sign of Apple users needing to pay some kind of tax or bounty to remain in Apple’s ecosystem.
From where then does Apple’s ecosystem derive its power? What makes a customer want to move deeper into the Apple ecosystem?
To answer these questions, we need to step back from any one product or service and instead look at Apple as a company. It is still common for people to call Apple by whatever is its best-selling or most popular product at any one time. This also applies to whatever product is responsible for revenue growth. As a result, we hear all too often phrases like Apple is an iPhone company, a services company, or even a wearables company. The problem is that Apple shouldn’t be defined by any one product, but rather the process that led to Apple having an ecosystem of products and services.
Apple is a design company selling tools that can improve people’s lives. These aren’t just any tools either. Instead, Apple is very selective in selling tools that are able to foster experiences that people are willing to pay for - something that has become increasingly rare in the consumer tech space. By having a design-led culture, Apple is able to put the user experience front-and-center during product development.
This experiences mandate ends up being responsible for Apple’s high loyalty and satisfaction rates. The 975 million people with an iPhone aren’t likely to remain iPhone users because of stellar hardware or compelling software powering that hardware. Instead, loyalty is driven by the experiences associated with using an iPhone.
An Experiences Ecosystem
The secret to Apple’s ecosystem is that instead of selling products or services, Apple ends up selling experiences made possible by controlling hardware, software, and services.
Instead of thinking of Apple’s ecosystem in terms of the number of people or devices, a different approach is to consider the number of experiences Apple is offering. This is where Apple’s true ambitions become visible. By using an iPhone, a customer doesn’t just receive one experience per day. Instead, nearly everything that is consumed on the device has the potential of leading to a good (or bad) experience. This is why Apple’s control of hardware, software, and services plays such a crucial role. Apple’s ecosystem likely consists of tens, if not hundreds of billions, of experiences in a single day.
Having an ecosystem of experiences ultimately represents the biggest challenge to Apple competitors. Coming up with an iPhone alternative isn’t good enough for enticing users to jump from the Apple ship. Instead, competitors need to come up with even better experiences than those found in the Apple ecosystem. As a user moves deeper into the Apple ecosystem - in pursuit of additional premium experiences - competitors need to figure out a way of recreating that growing list of experiences. Can it even be done? When looking at the wearables industry, the answer as of today is “no.”
Non-Apple Hardware
One of the most intriguing aspects of Apple’s ecosystem is how nearly half of Apple users still only use just one Apple device: an iPhone. The idea that every Apple user owns a multitude of Apple devices and services is wrong. The implication is that Apple’s billion users own (and use) quite a bit of non-Apple hardware. Today, non-Apple hardware used by iPhone owners include TV sets, cheap stationary speakers, and CarPlay-equipped automobiles.
Since Apple’s product strategy and organizational structure rewards saying “no” more than “yes,” there will likely always be opportunities for other companies selling hardware to participate in the Apple ecosystem. This ends up being a Trojan Horse for Apple.
Instead of needing to have a new customer jump with both feet into the Apple ecosystem from Day 1, something that isn’t likely especially as the next marginal customer will be coming from the middle tier of the market, Apple merely needs this customer to buy or use one Apple tool.
Management is confident that one tool will eventually turn into two tools and then three since humans gravitate toward premium experiences. As one’s Apple tool collection grows, the number of experiences made possible by those tools increases. This has the impact of increasing customer satisfaction and loyalty. And the flywheel continues to turn. In order to get this flywheel moving in the first place, Apple must build bridges allowing new customers to move deeper into the ecosystem. Decisions like making Apple Music available on non-Apple hardware and bringing the Apple TV app to Samsung TVs are examples of such bridges.
Evolution
When thinking about how Apple’s ecosystem will evolve, the focus shouldn’t be on which new devices or services Apple can come up with, but rather on how Apple can offer new experiences to its customers. The blueprint for creating such experiences is already known: leveraging control over hardware, software, and services.
Technology’s battle lines are currently being redrawn with the goal being to capture the most valuable real estate in our lives: our health, homes, and transportation. Bets on software that completely reimagines the way we approach these verticals will likely prove to be good bets. Timing remains the big unknown.
This raises a question: How will Apple approach new verticals and industries? Would Apple attempt to recreate entirely new device lineups for each industry? Will The Grand Unified Theory of Apple Products be torn apart?
Instead of selling a $80,000 electric car or moving head-first into selling a range of first-party smart home hardware, Apple’s current ecosystem provides clues as to how the company can approach these new industries.
The point of Apple entering transportation wouldn’t be to sell cars, mopeds, or bicycles. Instead, it would be to sell experiences that Apple customers can consume on the road.
The point of Apple moving deeper into smart homes wouldn’t be to sell a plethora of small home gadgets and trinkets, some of which may require an electrician to install. Instead, it would be to sell experiences that Apple customers can consume in the home.
Apple developing an autonomous car remains difficult for many to wrap their minds around. The idea of Apple one day getting into housing is still considered a fantasy by most. However, such ideas make a lot of sense when thinking about how we consume experiences during the day.
An autonomous car is nothing more than a room on wheels. A house is a series of rooms connected to each other. With each, Apple would be looking to create environments that can support new experiences.
This brings us back to Apple’s current suite of products and services. It is incorrect to assume that Apple entering new industries would result in the company throwing its current products out the window. Instead, those tools stand to play major roles in delivering experiences in new industries.
Apple’s interest with Project Titan isn’t to beat or copy Tesla, but rather to figure out a way to have personal gadgets provide compelling experiences on the road. Such experiences could include Apple Glasses being used to find the right autonomous Apple Car to enter while Apple Watches can be used as identification for entry. Once inside the vehicle, the digital assistant found on the wrist or in front of our eyes could then be used to convert the car’s hardware to suit our needs. A similar dynamic would be found with smart homes - relying on personal gadgets, especially wearables, to come up with premium experiences in the home. We are seeing the early stages of this with products like HomePod and the way the device can be seamlessly used with Apple Watch.
The idea that Apple would enter the transportation and housing industries simply to come up with more areas for its users to engage with wearables may seem preposterous today. However, the idea that a single company would be able to deliver hundreds of billions of experiences per day by selling tools consisting of hardware, software, and services was similarly once a fantasy.
Listen to the corresponding Above Avalon podcast episode for this article here.
Receive my analysis and perspective on Apple throughout the week via exclusive daily updates (2-3 stories per day, 10-12 stories per week). Available to Above Avalon members in both written and audio forms. To sign up and for more information on membership, visit the membership page.
For additional discussion on this topic, check out the Above Avalon daily update from July 23rd.
Above Avalon Podcast Episode 170: Pulling Away From the Competition
In episode 170, Neil examines how Apple is pulling away from the competition to a degree that we haven’t ever seen before. Given how we are just now entering the wearables era, implications of this shift will be measured in the coming decades, not years. Additional topics include WWDC 2020, Apple’s revised product strategy, the competitive landscape, and Apple’s lead in wearables.
To listen to episode 170, go here.
The complete Above Avalon podcast episode archive is available here.
Apple Is Pulling Away From the Competition
For the second year in a row, Apple held a developers conference that should frighten its competitors. Relying on a nearly maniacal obsession with the user experience, Apple is removing oxygen from every market that it plays in. At the same time, the tech landscape is riddled with increasingly bad bets, indifference, and a lack of vision. Apple is pulling away from the competition to a degree that we haven’t ever seen before. Given how we are just now entering the wearables era, implications of this shift will be measured in the coming decades, not years.
WWDC 2020
It speaks volumes that Apple held its strongest WWDC in years during the middle of a pandemic while two of its largest competitors, Google and Facebook, decided to skip their annual developers conferences. Just a few years ago, fortunes were reversed. Apple was coming under fire for WWDCs that appeared to be more reactionary to Google, Facebook, and Samsung. Apple was also struggling to contain growing unrest among its pro users who were tempted by Microsoft Surface hardware.
What changed?
The last two WWDCs stood out for two reasons:
A revised Apple product strategy. A few years ago, Apple was most aggressive with products capable of making technology more relevant and personal (iPhone and Apple Watch). As shown in Exhibit 1, in the pull strategy, the Apple Watch and iPhone were Apple’s clear priorities while the iPad, Mac portables, and Mac desktops ended up facing a battle for management attention as if they were located at the end of the rope that was Apple management was pulling.
Apple changed from a “pull” strategy in which some products like the iPad and Mac seemed to be having a hard time keeping up to a push strategy characterized by every major product category moving forward simultaneously. This shift appears to have been born in 2017, which would explain why we are still seeing the initial fruit of the effort. The iPad and Mac product categories have benefited the most from this revised “push” product strategy with more frequent and noteworthy updates.
Exhibit 1: Apple’s Changing Product Strategy
Apple has doubled down on its unique interpretation of innovation. During his opening remarks at the iPhone and Apple Watch event last September, Tim Cook said that Apple sells tools containing "[i]nnovations that enrich people's lives to help them learn, create, work, play, share, and stay healthy." Instead of defining innovation as either being first or doing something different, Apple looks at innovation as something that improves customers’ lives. A major consequence of this has been software and hardware releases that have prioritized feature quality over quantity. This year’s WWDC came in a full 20% shorter than previous keynotes. While having a digital format helped cut down on the timing due to quicker transitions, no clapping etc., there were also fewer new features announced. However, the features that were announced contained more significance when it comes to pushing the user experience forward.
A Stronger Apple
Unfortunately for Apple competitors, the combination of a revised product strategy and unique definition of innovation didn’t just make for strong WWDC keynotes. Consumers are noticing and wanting what Apple is selling. Consider the following trends:
Apple hasn’t just held its own in the smartphone space but rather is continuing to take share from Android. Of all the smartphone manufacturers, Apple saw the largest sales share increase in the smartphone industry last quarter, and that was during a pandemic.
Apple is adding approximately 20 million new iPad users per year despite the iPad being 10 years old and already having an installed base exceeding 300 million users.
Apple’s oldest major product category, the Mac, is adding 10 million new users per year.
Apple Watch and AirPods are quickly approaching 100 million user bases each.
Apple users are paying for 518 million subscriptions across Apple’s platforms, which is up 126 million in just a year.
All of the preceding items amount to an Apple ecosystem gaining momentum. A different way of highlighting Apple’s growing ecosystem over the past 10 years is to look at the number of people using at least one Apple device. As shown in Exhibit 2, Apple’s installed base recently surpassed a billion users.
Exhibit 2: Apple Installed Base (Number of Users)
While new user growth rates have slowed, Apple is still bringing tens of millions of users into the fold. Due to Apple’s views regarding innovation and its focus on the user experience, once someone enters the Apple ecosystem, odds are good that customer will remain in the ecosystem.
This is why one subtheme from last week’s WWDC keynote flew under the radar. (My complete WWDC 2020 review is available here for Above Avalon members.) It’s not just about Apple pushing multiple product categories forward at the same time. Instead, it’s about adding cohesiveness and commonality between product categories. Apple is making it easier for people to buy multiple Apple devices. As users move deeper into the Apple ecosystem, satisfaction and loyalty rates stand to go even higher. The end result is that Apple’s billion users aren’t just any billion users. Instead, they are a billion users less likely to use non-Apple devices and services going forward. For the competition, this is a highly concerning development.
More worrying for competitors, Apple is still in the early stages of bringing its users deeper into the ecosystem. According to my estimate, approximately 50% of Apple users still own just one Apple device: an iPhone. This group serves as a prime market for products like the iPad, Apple Watch, AirPods, and various Apple services. In a few years, that percentage may decline to something more like 30%. Such a development will remove much of the remaining oxygen from the markets Apple plays in.
Competition Is Weakening
While Apple sails forward with a strengthening ecosystem made possible by a clear product vision and a functioning organizational structure that prioritizes design (i.e. the user experience), the competition is rudderless.
Apple competitors have been striking out with one bad product bet after another. Few have long-term vision as to where computing is headed. Consider the following events, developments, and observations. By no means is this an inclusive list.
Samsung remains rudderless from a product vision perspective. With no clear direction as to where to go, the company aimlessly launches new products and features for no other reason than to say they are first. The strategy is no different than throwing things against the wall and hoping something sticks. Even worse, the products and features that Samsung is announcing aren’t even ready for public usage.
Google continues to prioritize technology over design. While new software features may seem compelling on paper, the lack of attention given to the user experience quickly becomes apparent. It has also become difficult to miss the growing enthusiasm gap between Android and iOS. On the hardware front, Google is struggling to match such efforts with its ambient computing future (which doesn’t make much sense to me).
Amazon’s massive bet on voice with Alexa and Echo was the wrong one. The stationary smart speaker space was a mirage. Amazon should have instead bet on wearables with voice as a user input. However, the company doesn’t have the corporate culture to excel with computers worn on the body.
Microsoft appears to be running into growing trouble with the consumer when it comes to Surface. What had been a genuine chance to rip into the iPad and Mac stronghold due to growing user unrest looks to have been successfully crushed by Apple. Microsoft Surface revenue is increasingly being driven by commercial clients (i.e. Microsoft is taking share from its OEMs rather than Apple).
Facebook ended up placing the wrong social bet. Instead of going after our closest social network, Facebook evolved to offer a curated version of the web via the News Feed. The company’s pivot back to a privacy-focused social platform built around messaging emphasizes this wrong bet. A message sent through Apple’s Messages is a message not sent through a Facebook property.
Snap, the company considered to have the best odds of competing with Apple on AR, botched its first major foray into AR hardware with Spectacles. The company has backed itself in a corner by management’s refusal, and then failure, to appeal to older demographics. This will serve as a headwind for mass market AR successes.
Spotify was not able to prevent Apple Music from gaining critical mass despite Apple Music not having a free tier. The same is now taking place with Netflix, which is unable to stop new entrants into paid video streaming from gaining traction. This ends up diffusing near universal praise in the press for first movers.
For an industry that was expected to put Apple in its place, that sure is a lot of fails, flops, and disappointments. When looking outside the U.S., the overall picture isn’t dramatically different. While some companies still have pockets of strength where Apple is not a major player, in geographies Apple is playing in, the company continues to see growing ecosystem momentum while the competition flounders. The number of paid subscriptions being run through Apple’s platform points to increased services and app adoption outside the U.S.
The never-ending tales of Apple being crushed by the local competition in China have been met with Apple seeing existing users move deeper into the ecosystem as measured by App Store, iPad, and wearables momentum. Huawei’s struggles in Europe appear to be benefiting Apple at the premium end of the market.
Changing Narrative
If there was still doubt about Apple’s momentum in the marketplace, one doesn’t need to look any further than the dramatic change in narrative facing Apple in the press.
For years, Apple was positioned as one iPhone update away from implosion. Low market and sales share were paraded around as signs of an incompetent product strategy. Simply put, Apple was framed as being weak and vulnerable, dependent on revenue sources that could disappear overnight due to consumers fleeing to the competition.
The narrative has completely shifted. The press is now infatuated with Apple’s power, its ironclad grip over the App Store, and the idea that Apple users are stuck or imprisoned in a massive walled garden where things like iMessage, Apple Watches, and AirPods force people to remain within Apple’s walls. Government regulators are viewed as the only entity capable of protecting Apple users from Apple.
If competitors actually believe this narrative, they are setting themselves for more failure. Thinking that Apple users are somehow being forced against their will to buy products like Apple Watches and AirPods is nothing more than looking for someone to blame for market failures when the problem is found internally with a bad vision, inadequate corporate culture, and lack of understanding as to what makes Apple unique.
Risks
On a list of risk factors facing Apple, greater regulation is far from the top. The same can be said about things like App Store policies and employee retention. While these items make for juicy headlines capable of grabbing people’s attention, they won’t play a major role in Apple’s future. Instead, Apple is where it is today by saying “no” more than “yes.” By remaining focused on making technology more personal, which is inherently about using a design-led culture to push the user experience, Apple is able to develop a dynamic, yet nimble, ecosystem of tools that people are willing to pay for. lf it were to lose focus, Apple would move that much closer to its competitors.
Apple ends up being its toughest competitor as it releases products that surpass the previous version. This is where betting on the user experience and taking a unique stance on innovation is critical.
Next Ten Years
When the iPhone was unveiled in 2007, Steve Jobs claimed that Apple had a five-year head start against the competition. He ended up being mostly right. By 2012, Samsung and Google were shipping credible iPhone alternatives, thanks partially to ruthless copying that led to time in the courtroom.
With wearables, my thinking has been that Apple has a lead that is closer to 10 years. This estimate reflects not just software or hardware advantages, but also the byproduct of Apple controlling both items and its resulting achievements with custom silicon.
As time passes, Apple has been facing less competition in wearables. This is remarkable considering how Apple Watch has already ushered in the next paradigm shift in computing. We are seeing the future today. Yet most companies either don’t see it or even worse, see it but are unable to respond.
Giving Apple a 10-year head start against the competition with wearables may end up giving too much credit to the competition. Excelling in wearables requires a corporate culture, product development process, and business model that few companies other than Apple possess. In many ways, Apple was built to excel in wearables. Apple should probably get used to being its own toughest competitor.
Listen to the corresponding Above Avalon podcast episode for this article here.
Receive my analysis and perspective on Apple throughout the week via exclusive daily updates (2-3 stories per day, 10-12 stories per week). Available to Above Avalon members. To sign up and for more information on membership, visit the membership page.
Moving Forward in a Pandemic
More has happened in the past month from a global economic and health perspective than in the past ten years. We are in uncharted territory as 200 million people in 21 U.S. states find themselves facing “stay at home” directives while a growing list of countries including Italy, Spain, France, Australia, the U.K., and India are in complete lockdowns. Travel around the world has essentially come to a standstill.
Although it may be natural to search for comparisons between the coronavirus pandemic and prior crises, such an exercise will prove inadequate. Silicon Valley finds itself in the most difficult operating environment it has ever faced.
Apple’s strategy for navigating the coronavirus pandemic is centered around continuing to move forward, however difficult that is proving to be. Along those lines, management is taking recently learned lessons from how coronavirus trended in China, South Korea, and Japan to come up with a blueprint for what to do around the rest of the world.
Key Developments
Over the past two weeks, Apple has announced a number of initiatives and actions related to slowing the coronavirus pandemic in the U.S. and around the world. This includes helping those workers on the front lines.
Apple and its corporate peers were early in embracing social distancing and allowing employees to work from home.
Apple was the first major retailer to close its retail stores in the U.S. The decision wasn’t a light one as Apple stores are vital sources for customers looking to get help and service for their communication devices. A third of Apple store visitors are there for service.
Apple has joined most of its peers in donating medical supplies that had either been stockpiled to protect employees from California wildfires or were in some way connected to the company’s extensive supply chain and manufacturing apparatus.
The preceding actions are desperately needed and should be applauded and serve as a model for others to follow.
There were two other announcements from Apple that spoke volumes as to how the company planned to navigate the coronavirus pandemic:
Unveiling a reimagined and revised WWDC. With Apple historically holding its annual developer conference in June, the company had the time to turn misfortune into something positive by turning the cancellation of an in-person conference into a reimagined online-only WWDC (still scheduled to take place in June).
Unveiling a number of new products. Apple announced updates to the MacBook Air, Mac mini, iPad Pro, a new Magic Keyboard (with trackpad) for iPad, 20 new Apple Watch bands, and iPadOS 13.4 which brought system-wide support for cursors, trackpads, and mice.
As large portions of the U.S. hunkered down to combat the coronavirus and Apple’s board likely invoked certain provisions of its business continuity plans given the sudden deterioration in market and operating conditions, Apple went forward with plans for its biggest event of the year and its spring product release.
Along with doing its part to help combat the virus, Apple is also recognizing the reality that society doesn’t stop, even during a pandemic. That decision may come off as distant, or even careless, as if Apple isn’t willing to recognize the seriousness of the matter. However, this is a misreading of the situation.
By continuing to move forward, even during a pandemic, Apple is being true to itself. Apple is a toolmaker developing products capable of improving people’s lives. Such a mission never stops, even during a pandemic plaguing 180+ countries.
Anecdotal reports out of China point to sustained demand for iPads, despite lockdowns and quarantines, as families look for education tools to supplement children’s time away from the classroom. The U.S. now finds itself in a similar situation with some states having closed schools indefinitely. Employees are finding that work obligations haven’t disappeared, even in the face of new challenges in the form of closed schools, daycares, and the need to keep families safe.
In such trying times, we still need functioning tools in the form of smartphones, laptops, desktops, and even wearables, not to mention accompanying services and software powering those tools. One has to imagine FaceTime usage is at record highs as video calls replace face-to-face interactions.
Challenges
It would be an understatement to say that Apple faces challenges in its quest to continue moving forward in the midst of a pandemic.
Consider the following developments:
Stay at Home Directives. California is currently in a “stay at home” directive under which residents are urged to stay at home and only leave the house for essential needs such as food and medicine. California’s governor doesn’t think there will be any significant change to the order through at least mid-April.
Tim Cook, along with most other Silicon Valley CEOs, is following the order and working from home (as shown in the video clip below).
Google positioned the order as a key factor for canceling I/O, its annual developer conference, altogether. Apple’s announcement of running with a revised WWDC this June was announced prior to California’s stay at home order. It’s not entirely clear how Apple can create an online-only WWDC while employees are urged to stay at home. In a worst case scenario, will we see executives give presentations and product demoes from their homes?
Social Distancing. There is irony found with how social distancing efforts, which have been proven to be very effective in slowing the virus spread, stand at odds with the vision and goal behind Apple Park as a place for spontaneous collaboration. Even when stay at home directives are rolled back, Apple still faces a massive challenge in keeping employees safe from the virus at Apple Park and other corporate offices.
Retail Closures. Apple’s 460 stores outside Greater China have been closed indefinitely with most of Apple’s 70,000 retail employees unable to help hundreds of millions of Apple users. While Apple has announced plans to slowly reopen stores, the company is taking a localized (and cautious) approach to such openings.
Travel Restrictions. Apple’s massive supply chain and manufacturing apparatus require Apple employees to spend time with partners on the ground and to collaborate on product development. Last year, an unintentional leak from United Airlines showed that Apple was responsible for 20% of all business seats that fly between San Francisco and Shanghai. It’s an astounding percentage that speaks to the degree to which Apple’s design, engineering, and operation teams spend time in Asia. The coronavirus pandemic has resulted in a near halt in global travel, and it is logical to assume this will have an impact on product development timelines.
Operating Environment
A scenario that many people may not want to admit to is that the next 12 to 18 months may be the most difficult operating environment Silicon Valley will ever face. Even if the U.S. is successful at slowing the virus spread in hot spots, ongoing travel restrictions around the world will cause long-term headaches. There are then the possibilities of additional virus waves in the fall and winter. This may end up leading to permanent changes in how companies get work done.
Some of the challenges found with the coronavirus pandemic may very well lead to product launches being delayed. Despite having one of, if not the, most formidable supply chains in the world, Apple isn’t immune to disruptions. The products Apple unveiled last week were mostly ready to go prior to the coronavirus pandemic spreading around the world. As a general rule, the products Apple is working on today are targeted for release 12 to 18 months from now.
Despite having $40 billion of cash and cash equivalents and another $167 billion of marketable securities on the balance sheet, is it imperative that Apple recognizes market dislocations in short-term lending markets. There is then the potential financial fallout from a prolonged period of subdued customer demand. No one knows for sure whether or not customer demand will snap back in the U.S. and Europe once stay at home directives and lockdowns have been rolled back. China, South Korea, and Japan provide hope that the demand answer is yes. However, the U.S. is clearly attacking coronavirus differently and that may mean that the rebound will trend differently as well. Even stellar balance sheets can turn south in a prolonged pandemic.
While the preceding challenges are daunting, a realization that is only now starting to sink in is that the top five giants (Apple, Amazon, Microsoft, Alphabet, and Facebook) have business models that aren’t dependent on the public leaving their homes. It’s an observation that will have implications for decades to come.
Strong Brands
Apple finds itself at an advantage to most of its peers as it saw firsthand how China, South Korea, and Japan handled coronavirus (and are now working to keep the virus at bay). In terms of the supply chain, Tim Cook and his inner circle were at the company during the SARS outbreak in 2003. Jony Ive reportedly spent three months quarantined at Foxconn during the SARS outbreak, working on the Power Mac G5 Tower. The current executive team was also at Apple during the aftermath of September 11th, 2001 when Apple unveiled the iPod six weeks later. There are then the natural disasters that Apple’s supply chain works around. However, there is something about the coronavirus pandemic that is different. It’s a challenge like Apple has never faced.
Earlier this week, Nike reported earnings (which were better than consensus expected). Nike’s new CEO, John Donahoe, of eBay fame, said “We know it’s in times like these that strong brands get even stronger.”
He’s right. The best brands will come out of this challenging time stronger than ever. Why? The companies with the best brands always strive to continue moving forward.
Listen to the corresponding Above Avalon podcast episode for this article here.
Receive my analysis and perspective on Apple throughout the week via exclusive daily updates (2-3 stories per day, 10-12 stories per week). Available to Above Avalon members. To sign up and for more information on membership, visit the membership page.
For additional discussion on this topic, check out the Above Avalon daily update from March 30th.
Above Avalon Podcast Episode 163: A Revolution on the Wrist
In addition to being a sales success, the Apple Watch has ushered in a paradigm shift in computing. In episode 163, Neil discusses how the Apple Watch is fundamentally changing the way we use technology. Additional topics include paradigm shifts, Apple Watch sales, Apple’s new Apple Watch Connected initiative, stationary smart speakers as extensions of existing products, and Neil’s new framework for recognizing paradigm shifts in computing.
To listen to episode 163, go here.
The complete Above Avalon podcast episode archive is available here.
Apple Watch and a Paradigm Shift in Computing
Despite being only four years old, the Apple Watch has fundamentally changed the way we use technology. Due to the sheer number of Apple Watches now seen in the wild, those claiming the device is unpopular have been silenced. However, there continues to be a good amount of cynicism thrown at the computer found on 65 million wrists around the world.
Many tech analysts and pundits continue to look at the Apple Watch as nothing more than an iPhone accessory - an extension to the smartphone that will never have the means or capability of being revolutionary. Such a view is misplaced as it ignores how the Apple Watch has already ushered in a paradigm shift in computing.
Paradigm Shifts
The idea of paradigm shifts was born in the sciences to describe a scenario requiring a new way of thinking in order to explain the world. One of the more fascinating aspects of paradigm shifts is the accompanying social component. Due to the discomfort found with letting go of legacy thinking, society has a built-in aversion to acknowledging when a paradigm shift has occurred due to the discomfort found with letting go of legacy thinking. This makes it likely that paradigm shifts will often be born wrapped in skepticism and doubt.
In terms of computing, no one now questions the shift that took place from desktops and laptops to mobile devices. However, reality was messier as it took nearly a decade for consensus to view the smartphone as a laptop or desktop alternative. For years, smartphones were viewed as merely laptop and desktop extensions. What was initially viewed as a superior email machine for executives marked the start of a paradigm shift in the making.
We are seeing a similar dynamic take place with Apple Watch. Legacy thinking is masking Apple Watch’s transformational attributes. The product is misunderstood as Apple competitors are unsure of the answers to basic questions such as, why are consumers buying Apple Watches?
A Wrist Revolution
While pundits and analysts question what an Apple Watch is for, tens of millions of consumers around the world have recognized how the device can improve their lives. The product category is a sales success.
Apple has sold more than 90 million Apple Watches to date with 29 million sold in calendar year 2019. With an average selling price of more than $400, the Apple Watch is bringing in $12 billion of revenue per year, and that total is growing by 30% per year. After taking into account upgrade trends, the number of people wearing an Apple Watch has crossed 65 million. Based on my forward projections, the Apple Watch installed base will surpass 100 million people in 2021.
The preceding numbers are my estimates obtained by utilizing more than four years of financial clues and insights provided by Apple management in earnings calls, interviews, and presentations. More information on my methodology and the math behind these numbers is found in the Above Avalon daily update from December 11th. Above Avalon membership is required to read my daily updates.
Apple Watch and Paradigm Shifts
In addition to being a sales success, the Apple Watch has ushered in a paradigm shift in computing by making technology more personal in a way that other devices have failed to accomplish or replicate. The Apple Watch allows people to get more out of technology without having technology take over people’s lives. The device is able to accomplish this in three ways:
Seamless tracking and monitoring. The Apple Watch tracks one’s fitness and more importantly, health, in a nonintrusive and intuitive way that isn’t possible with non-wearable devices.
Intelligent assisting. Wearing a computer on the wrist has shown the value found in having a digital assistant push small amounts of information and data to the user throughout the day instead of having the user pull data from pieces of glass (smartphones and tablets).
Contextual awareness. A device that is always on us can enhance our surroundings by utilizing our location and activity to deliver contextual experiences. This is a valuable proposition when developing new experiences.
These three items combined allow Apple Watch to handle some tasks that we already give to existing devices like smartphones and tablets as well as jobs and work that cannot be supported by mobile devices.
Apple Watch Connected
Apple Watch’s ability to usher in a paradigm shift in computing isn’t about what ifs or hypotheticals. It's something that is already taking place. We have a growing list of ways Apple Watch is a different kind of computer, the likes of which we have never seen. The latest example is an initiative Apple soft launched two weeks ago with four fitness brands called Apple Watch Connected.
The initiative originated out of feedback shared with Apple from health and fitness clubs looking to better connect the Apple Watch with their own customer experiences.
There are four requirements for a health club or gym to be part of Apple Watch Connected (which is free for both the health club and Apple Watch wearer):
Support Apple Pay. Apple Watch wearers must be able to purchase items like water, classes, or even personal training on the wrist with Apple Pay.
iOS and watchOS Apps. Businesses must have apps that allow for things like signing up for classes.
Earn with Watch. Businesses must offer rewards and incentives to Apple Watch wearers for remaining active. Such incentives have proven to be an effective way to motivate Apple Watch wearers.
Support GymKit (if applicable).
Apple Watch Connected ends up being a tool that enables third-party gyms and health clubs to build stronger relationships with customers. This is accomplished when businesses leverage seamless activity and fitness tracking on the wrist to reward their customers for staying active.
The key ingredient for getting this initiative off the ground is having people wear an Apple Watch throughout the day. Trying to recreate this type of comprehensive experience on a dedicated fitness tracker used only during workouts, or even on a smartphone or tablet, would be the equivalent of trying to use a laptop or desktop to accomplish tasks that are simpler and more intuitive on an iPhone. There is no good or easy way to track our daily activity with a large piece of glass that may sometimes be in our pocket or strapped to our arm. Having to grab and hold this piece of glass when using mobile payments or checking location-based notifications and reminders would lead to an overall experience that is subpar.
The most intriguing aspect of Apple Watch Connected is how entrepreneurs can use Apple Watches to launch new business models. With legacy gyms, the idea was to have people pay for monthly memberships but then not show up so that fewer workout machines would be needed. Apple Watch Connected turns that idea on its head by allowing a gym or health club to establish a new kind of long-term relationship with customers that encourages continued workouts and activity. This kind of business model shift is an example of the new paradigm shift unleashed by Apple Watch.
Instead of simply taking the existing app model and applying it to the wrist, a new way of consuming “apps” has developed. Subscriptions are naturally more applicable to something like an Apple Watch as customers find value in long-term targeting, monitoring, and data curation.
A New Framework
I’m introducing a new framework for recognizing paradigm shifts in computing. This theory borrows heavily from my Grand Unified Theory of Apple Products which positions a product category's design as tied to the role it is meant to play relative to other Apple products.
More information on the Grand Unified Theory is found in the Above Avalon Report Product Vision: How Apple Thinks About the World. Reports are available to Above Avalon members at no additional cost.
Paradigm shifts in computing can be determined by monitoring the degree to which products are able to make technology more personal. This framework positions design (i.e. how we use products) as the catalyst for paradigm shifts in computing.
Over the past few decades, we have seen two such primary paradigm shifts in computing:
Laptops/desktops to smartphones.
Smartphones to wearables.
Neither shift was about a new product replacing an older product. Laptops and desktops are still used by hundreds of millions of people in a mobile world. Similarly, there will be billions of smartphones found in a wearables world.
Instead, the move from desktops and laptops to smartphones and tablets was ultimately about using design to remove barriers that existed between the user and technology. One way this was accomplished was using multitouch as a new way to interact with a device. However, mobile devices are not able to remove all barriers. Increased smartphone and tablet usage has revealed an entirely new set of barriers that we never knew existed. A device like Apple Watch relies on design to remove some of those recently discovered barriers.
One reason this new computing shift has not been universally accepted is because the Apple Watch still uses “training wheels” in the form of requiring an iPhone to set up. This iPhone reliance has led some to view Apple Watch as nothing more than an extension to the iPhone. However, such a claim focuses too much on the technology and not enough on how design is leveraged to alter the way we use technology.
As for an example of a genuine extension of the smartphone, stationary smart speakers are at the top of the list. Grand prognostications of stationary smart speakers ushering in a new era of computing have faded (which doesn't come as a surprise). The primary value found with a stationary smart speaker is being able to take up the physical space needed to house speakers for delivering better sound. In this way, the speaker ends up being a smartphone amplifier that comes in handy for consuming sound as a group activity.
Nearly every other task or role given to a stationary smart speaker could be given to an Apple Watch. The wrist ends up being a better solution given the presence of a screen. In addition, whereas stationary speakers are confined to a finite area (the inside of a room), Apple Watch has greater mobility than even smartphones and tablets as it is literally strapped to our wrist at all times.
Voice in and of itself is not a paradigm shift as the medium is incredibly inefficient for transferring large amounts of data and information. It also creates a massive wall that prevents us from getting more out of technology without having technology take over our lives. Meanwhile, the Apple Watch has become a bridge to the future by containing a screen.
Apple Watch in a Wearables World
Apple Watch isn’t alone in ushering in this new era of computing. Other wearable devices designed to leverage the unique attributes of the body (wrists, ears, and eyes) have a role to play. The attributes that have allowed the Apple Watch to flourish on the wrist are being translated to allow AirPods to become a platform for bringing augmented hearing to the masses. In the future, a pair of eyeglasses will be able to add visual context to our surroundings.
In each example, we have a fundamental rethink of how people use computers to improve their lives. The “training wheels,” or early technological bonds that may exist in the early reiterations of these devices should not be taken or viewed as permanent chains. Rather, they are early support systems designed to give wearables the power to change the way we use technology.
Listen to the corresponding Above Avalon podcast episode for this article here.
Receive my analysis and perspective on Apple throughout the week via exclusive daily updates (2-3 stories per day, 10-12 stories per week). Available to Above Avalon members. To sign up and for more information on membership, visit the membership page.
For additional discussion on this article, check out the daily update from February 6th: A Paradigm Shift on the Wrist. The update goes over an example of how the Apple Watch isn't just addressing tech barriers that have been around for years, but also newer barriers that only recently became visible.
The "Apple Tax" Died Years Ago
Two weeks ago, Business Insider caused a stir with a video titled, “Why Apple Products Are So Expensive.” The video was part of Business Insider’s “So Expensive” series, which takes a look at why certain items are priced the way they are.
The video was troubling for the number of inaccuracies, falsehoods, and outright lies it included about Apple and its pricing strategy. According to Business Insider, Apple products are expensive because loyal users are willing to pay an “Apple Tax,” or a higher price attached to products containing an Apple logo. A closer look at Apple’s actual pricing strategy reveals a fundamentally different explanation for why Apple products are priced the way they are. The days of there being an “Apple Tax” ended years ago.
The Video
The following video was pushed out to Business Insider’s 2.3M YouTube subscribers on November 23rd, 2019. The video currently has a little more than 660,000 views.
The video included a long list of claims regarding Apple, its product pricing strategy, and the company’s overall positioning in the marketplace.
Apple was said to be bringing in huge profits by charging higher prices for its products. The progression of pricing from iPhone 6 to iPhone 11 ($649 to $999) and the Mac mini ($499 to $799) were used as examples of Apple charging more for basically the same product. These higher prices are said to be part of Apple’s strategy to squeeze as much profit as possible from loyal customers “unwilling to switch out of the Apple ecosystem.”
Apple products were said to contain components that are standardized and comparable to what is found in competing products. Accordingly, higher-priced Apple products are more expensive than products from competitors despite not including additional functionality. An iPhone’s bill of materials was positioned as a useful tool for tracking how profitable an iPhone is for Apple.
Apple was said to rely on “sneaky” tactics to grab additional profit from these loyal users by charging more for higher-end configurations and requiring users to buy expensive dongles, keyboards, mice, and cables.
When assessing the video’s long list of issues, the primary problem was found with how much long-standing narratives about Apple guided Business Insider’s talking points. Numbers and data were cherrypicked to support false narrative after false narrative while Business Insider ignored or brushed aside evidence that would prove its narratives wrong. For example, Apple’s downright aggressive pricing with Apple Watch and AirPods was ignored. Meanwhile, strategies that have proven to be flat out wrong, such as relying on a product’s bill of materials to figure out profitability, went unchecked.
In an effort to come off as more authoritative, Business Insider relied heavily on commentary from Mohan Sawhney, a marketing professor at Northwestern University. The problem was that Sawhney viewed Apple through a marketing prism - the company was said to be nothing more than a luxury brand selling nice-looking tech gadgets. Sawhney claimed the only reason Apple is able to extract so much profit from the industries it operates in is because people are willing to pay more for the Apple logo. There was no mention of Apple controlling much of the profit within an industry by purposely avoiding the low end of that market while also offering a wide range of devices with different amounts of technology.
Apple Tax
The theory of there being an Apple Tax has been around for more than a decade. The term was coined during the mid-2000s to refer primarily to Apple laptops (iBooks and then MacBooks). A MacBook was said to cost more money than a Windows laptop with similar specifications because of there being a premium built into the MacBook’s price. Said another way, the MacBook was more expensive than other products since it included an Apple logo.
The “Apple Tax’ phrase became a way to poke fun at MacBook users for their apparent cluelessness in paying more for a product despite cheaper alternatives being available. In recent years, the Apple Tax definition has morphed to merely refer to higher-priced Apple products like the iMac Pro and new Mac Pro.
There has always been a glaring hole in the Apple Tax narrative: Since Apple does not license its Mac operating system to OEMs, a MacBook running Apple software ends up being very different than a Windows laptop said to have similar specs. In addition, while Apple made a number of content creation applications available for free on the Mac, Windows laptops positioned as direct competitors lacked such free applications. It may be more correct to say that the Apple Tax reflected the price of Mac software instead of some kind of premium created out of thin air.
Apple’s Pricing Strategy
Apple’s pricing strategy is not based on the idea of forcing users to pay an “Apple Tax.” Instead, Apple follows a revenue and gross profit optimization strategy. Here is Apple’s CFO Luca Maestri talking about the strategy on various Apple earnings conference calls:
4Q17: “We tend to think about maximizing gross margin dollars because we think that's the most important thing for investors at the end of the day. When we look at our track record over years, I think we've found a good balance between unit sales growth and gross margins and revenue, and we will continue to do that as we go forward.”
2Q18: “Our primary consideration is always around maximizing gross margin dollars, and that is the approach that we take around pricing decisions.”
4Q18: “[W]e make our decisions from a financial standpoint to try and optimize our revenue and our gross margin dollars.”
1Q19: “It is important for us to grow gross margin dollars. And if at times we grow services that are at a level of gross margins, which is below average, as long as this is good for the customer and as long as we generate gross margin dollars we're going to be very pleased.”
2Q19: “[W]hat really matters to us and what we look at -- when we look at the elasticity of these [iPhone upgrade] programs is to see the impact on our gross margin dollars.”
While “revenue and gross margin optimization” may sound like loaded terminology, the idea underlying the strategy is straightforward. Instead of Apple including a certain amount of “tax” or premium in a product’s price to maintain a specific gross margin percentage, Apple prices its products in a way that maximizes gross margin and revenue on an absolute basis. Gross margin is cost of goods subtracted from revenue.
The strategy requires Apple to come up with forecasts for how a product’s price will impact customer demand for that product. Price a product too high, and the lower unit sales (as a result of weaker demand) may more than offset the higher amount of revenue and gross margin found with each device. Price a product too low, and the higher unit sales (as a result of stronger demand) may not offset the lower amount of revenue and gross margin found with each device.
Gross Margin Data
A closer look at Apple’s gross margins demonstrates this “revenue and gross margin optimization” strategy in action. Exhibit 1 highlights Apple’s gross margin percentage going back to 2000.
Exhibit 1: Apple Gross Margin (Percent of Revenue)
As shown in Exhibit 1, Apple’s gross margin as a percent of revenue has been steady since 2013. On the surface, such stability would seem to validate Business Insider’s claim of there being some kind of price premium automatically added to Apple products - as if management determines a product’s price by adding a certain premium on top of the cost of goods sold.
However, Apple’s overall gross margin doesn’t tell the full story. There are notable shifts underway when looking at the two components that make up overall gross margin. A decline in Apple’s products (hardware) gross margin percentage is being offset by an increase in services gross margin percentage. This dynamic is seen in Exhibit 2.
Exhibit 2: Apple Gross Margin (Percent of Revenue) - Products vs. Services
In just the past two years, Apple products gross margin percentage has declined by 10% (350 basis points). That is noteworthy. This means that Apple hardware has become less profitable when looking at gross margin as a percent of revenue. The decline is due to two factors:
Apple is lowering product pricing which is eating into the delta between revenue and cost of goods sold. Most of these price cuts are designed to roll back the impact from foreign exchange. However, another factor is that Apple is willing to run with lower gross margin profiles for certain products with the goal of selling more products.
Apple is including more technology in its products while not increasing prices enough to maintain gross margin percentages. As with the first factor, Apple is becoming more aggressive on price in an effort to sell more products and generate more revenue and gross margin dollars.
The decline in products gross margin percentage doesn’t become apparent when looking at overall gross margin because Apple Services is offsetting the decline. Services gross margin is up a very strong 16% (870 basis points) over the past two years as services with naturally higher margins (licensing, AppleCare, paid iCloud storage) gain momentum.
While Apple’s products gross margin percentage has declined by 10% over the past two years, products gross margin dollars declined by only 2%. This tells us that Apple is willing to let products gross margin percentage decline (less profit found with each device) if it means stronger customer demand results in more units being sold. This is the epitome of Apple’s revenue and gross margin optimization strategy.
Implications
There are two major implications associated with Apple’s revenue and gross profit optimization strategy:
Apple’s product portfolio has become increasingly competitive from a pricing perspective. In the case of Apple Watch and AirPods, pricing is downright aggressive compared to the competition. A $159 pair of AirPods sent shockwaves around the industry as competing products were priced in the $200 to $300 range. Even today, it’s difficult for genuine competitors to come close to AirPods pricing. A similar dynamic is found with wrist wearables as Apple Watch pricing remains highly competitive.
Apple has embraced a bifurcation strategy in which product lines have been expanded to include a broader range of models and corresponding prices. This dynamic applies to most of Apple’s products including the iPhone, iPad, Mac, Apple Watch, and AirPods. The primary benefit of Apple becoming aggressive both at the low end and high end of the pricing spectrum is more choice for consumers. Products like the 10.2-inch iPad represent the gateway into the iOS ecosystem for millions of people each year. The MacBook Air remains the most popular Mac. The end result is that products with various margin profiles may end up offsetting each other.
Accessories
When it comes to how Apple prices various accessories like dongles, Watch bands, and iPad keyboards, the company isn’t relying on an Apple Tax. Instead, accessories by their very nature have high gross margins given that the items are sold to customers looking to personalize their experience. A similar philosophy applies to Mac memory and storage upgrades. While those upgrades are indeed profitable for Apple, the fact that Apple charges the prices they do is not a sign of Apple users being held hostage and forced to pay an Apple Tax. Instead, positioning certain items as accessories or upgrades plays a role in Apple keeping entry-level product pricing low for the mass market.
Narrative Violations
A new school of thought positions Apple as a monopoly not because it has significant market share, but because it has loyal and engaged users. The idea is that since these users would apparently face such a dreadful experience by moving outside the Apple platform, it’s as if they have no alternatives. Apple is said to be taking unfair advantage of this situation and its position as the only provider of a premium experience. A byproduct of this stance is that certain Apple actions, such as the way the App Store is managed, are viewed as uncompetitive.
There is no question that Apple has loyal, satisfied users. However, the premise that these users are in some way held captive or hostage by Apple, and therefore forced to pay high Apple prices, just doesn’t hold up to scrutiny.
Contrary to popular opinion, a new Apple product doesn’t sell simply because it has an Apple logo. Apple users are discerning when it comes to determining what products are worth buying. We see this when it comes to upgrade rates for existing products as well as adoption trends for new products.
Apple’s declining products gross margin percentage is driven in part by lower iPhone profit margin percentages. This has occurred despite iPhone ASPs rising, which goes against nearly every narrative that has been put forth about higher iPhone prices.
The App Store is run at just a 10% gross margin (my estimate). This goes against the idea that Apple is being unfair to developers when charging 15% or 30% revenue share. While some developers want Apple to charge them more like 5% to 10% of revenue, or nothing at all, such revenue share arrangements would likely lead to the App Store being operated at a loss considering that a majority of apps do not share any revenue with Apple.
It’s easy to look at Apple pricing and take a cynical view that management is trying to squeeze as much profit as possible from its users. However, Apple’s incentive isn’t to milk users for all they can but rather to expand the Apple user base and provide users great experiences. Apple’s ability to grab monopoly-like share of industry profits isn’t a result of there being an Apple Tax but rather a byproduct of Apple following a design-led product strategy that ultimately marginalizes industries.
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AirPods Are Becoming a Platform
If AirPods were magical, AirPods Pro are supernatural. Apple’s newest pair of AirPods continues to make waves with “augmented hearing” entering people’s vocabulary. However, the broader implications found with Apple’s AirPods strategy are just as impressive. Apple is quickly removing all available oxygen from the wireless headphone market, and competitors find themselves at a severe disadvantage. In just three years, AirPods have evolved from an iPhone accessory into the early stages of a platform well positioned to reshape the current app paradigm for the wearables era.
Another “Quiet” Launch
One of the more fascinating aspects found with AirPods Pro was how the product was unveiled. Instead of receiving stage time at Apple’s big product event at Steve Jobs Theater one month earlier, AirPods Pro received the press release treatment. When contemplating potential sales, AirPods Pro may end up being the best-selling Apple product that has ever been unveiled with just a press release.
The subdued unveiling given to AirPods Pro is consistent with Apple’s prior approach to AirPods. Instead of receiving the red carpet treatment as the Apple Watch did two years earlier, AirPods were unveiled to the world over the course of just five minutes at Apple’s iPhone and Apple Watch event at Bill Graham Civic Auditorium in San Francisco. In a sign of just how nonchalant Apple was with the unveiling, AirPods were positioned merely as an iPhone 7 and 7 Plus feature. The product was said to be an additional option that consumers had for handling the transition away from dedicated headphone jacks. (Remember those?)
Earlier this year, AirPods with wireless charging case was unveiled via press release as well.
AirPods Pro
It’s easy to gloss over many of the selling points found with AirPods Pro given the familiarity with AirPods. Items such as seamless pairing and the carrying case that doubles as a charging station play crucial roles in giving AirPods Pro such a high-quality and enjoyable user experience.
However, the features that have gained the most attention, and rightly so, are Active Noise Cancellation (ANC) and Transparency mode. For many people, AirPods Pro will be their first pair of ANC headphones. Those users are in for a treat as Transparency mode addresses the largest negative found with ANC headphones - the user is seemingly removed from his or her surroundings. A press and hold on one AirPod stem switches between ANC and Transparency mode. The functionality is a great example of how Apple’s engineering and design teams, through collaboration, can produce a great user experience.
Sales
In FY2019, Apple sold 35 million pairs of AirPods at an average selling price (ASP) of $162 (both are my estimates). On a revenue basis, the AirPods business is on a $6 billion per year run rate that is doubling year-over-year.
One way to put those sales numbers into context is to compare AirPods to other Apple products at the same point in time after launch. As shown in Exhibit 1, AirPods are trending similarly to iPhone sales when looking at unit sales out of the gate. After three years of sales, Apple has sold 61 million pairs of AirPods on a cumulative basis. During the first three years of sales, Apple sold 60 million iPhones.
Exhibit 1: Unit Sales out of the Gate
Apple likely crossed an important AirPods sales milestone last quarter. For the first time, Apple sold more than 10 million pairs of AirPods during a three-month stretch. While the preceding observation came from my earnings model (access to my Apple earnings model is a benefit associated with Above Avalon membership at no additional cost), the math checks out with Apple management’s commentary and clues provided on the 4Q19 earnings conference call. It’s likely that AirPods sales will exceed 10 million per quarter for the foreseeable future.
When contemplating AirPods unit sales trends going forward, too many people are stuck in a mobile mindset. Instead of seeing someone buy and use just one pair of AirPods, we may see a new kind of usage pattern develop in which a growing percentage of AirPods owners will use more than one pair of AirPods. This will help boost AirPods unit sales.
On Apple’s 4Q19 earnings conference call, Tim Cook was asked about the potential upgrade trajectory for AirPods. Cook commented that he thought current AirPods owners would be in the market for AirPods Pro to “have a pair for the times that they need noise cancellation.” The clear implication found in Cook’s comment was that Apple expects some AirPods owners to use multiple pairs of AirPods with differing levels of functionality.
After just three years of sales, we are already starting to see the early stages of this trend develop with people upgrading their AirPods but keeping their old pair as a backup.
In an unscientific poll conducted via Twitter poll through my account, 30% of respondents said they use more than one pair of AirPods. Interestingly, 41% of people who said they purchased a pair of AirPods with wireless charging case claim to still be using their older pair of AirPods as well. It helps that AirPods last years before poor battery life takes its toll. My initial pair of AirPods from 2016 are still used daily. It's early, but it looks like people using more than one pair of AirPods is a thing.
Platform Building
The current app paradigm primarily consists of downloading an app to our smartphone, tablet, smartwatch, smart TV, or laptop / desktop. We then interact with the app to “pull” information and context at a time of our choosing. App notifications are not very smart and instead represent mostly useless distractions more than anything else.
The Apple Watch was the first device to genuinely begin questioning the current app paradigm. The Siri watch face on Apple Watch is all about providing the wearer glanceable amounts of information, data, and context in the form of cards chosen by a digital assistant. These cards are personalized to the wearer based on the time of day and schedule. In essence, we are moving away from pulling data from various apps to receiving a curated feed of data that is dynamic - always changing and tailored to our needs.
Apple is turning AirPods into the second platform built for what comes after the App Store. Instead of being about pushed snippets of information and data via a digital voice assistant, something that will likely remain ideal for mobile screens, AirPods will be all about augmenting our environment by pushing intelligent sound.
AirPods Pro wearers are able to experience the early days of this dynamic with Transparency mode. Switching between Transparency mode and ANC is equivalent to augmenting our environment. We are receiving two different experiences despite being in the same location.
This dynamic could be extended so that a simple tap of an AirPod or a quick voice command can take us to a different location via sound. Utilizing HomePods as sound receivers, an AirPods wearer would be able to “move” from the kitchen to family room. A quick tap of one AirPods, or Siri voice command could bring the wearer from the family room to kitchen to answer a family member’s question or simply to be “in” the room.
App developers would be able to take part in this revolution by building experiences that further augment people’s hearing. “Apps” would amount to tools capable of adding context to our hearing. Fitness can be rethought by adjusting the AirPods wearer’s hearing during workouts and exercise based on his or her activity. As an example, AirPods music playbook can be adjusted based on the users’ heart rate obtained by an Apple Watch. Such adjustment would amount to the AirPods wearer being “removed” from his or her environment when close to reaching a maximum heart rate during a run or track workout. Of course, such health tracking and monitoring may one day be brought directly to AirPods in subsequent editions.
Another example involves utilizing AirPods to deliver different sound experiences to different people despite being in the same location and looking at the same thing. As an example, a single presentation shown in a school or office setting can end up delivering a dozen different experiences to those in attendance.
Platform Power
AirPods will derive its platform power from three sources:
Technology advantage
Design focus
Massive adoption
Apple is pulling away from the competition when it comes to building mini computers worn on the body. AirPods are computers for the ears. Years of learning how to manufacture 2.1 billion iPhones and iPads is now helping Apple to build nearly 70 million wearable devices per year.
This technology prowess and manufacturing acumen goes to waste if people don’t actually want to be seen wearing the devices. Apple’s success at redefining luxury, combined with the company’s design-led culture, gives the company a large advantage in the area of understanding what people will want to wear on the body.
The final source of platform power will come from massive adoption. There are currently 45 million people wearing AirPods. At the current rate, more than 100 million people will be wearing AirPods at some point in 2021. As to how Apple is able to see such strong AirPods adoption, Apple is busy removing all available oxygen from the wireless headphone market.
The company is utilizing a masterful combination of price and features to establish multiple beachheads in the market.
AirPods Pro do not replace AirPods in the product line. Apple is instead embracing a strategy of expanding the product line according to functionality. AirPods Pro represent the expansion of the AirPods line into a higher-end segment that places value with ANC. The end result is that Apple now has three different AirPods model, each targeting a different price segment of the wireless headphone market. It is certainly reasonable to expect Apple to continue pushing this strategy in the coming years so that we see a pair of AirPods go for as low as $99 and as high as $500.
We see similar product strategies with the iPad and Mac lines. With these, Apple sells a range of flagship products with varying degrees of functionality, and of course, price.
There are some unique attributes seen in Apple’s campaign to remove oxygen from the wireless headphone market. Unlike what they did with the iPhone or iPad playbook, Apple didn’t launch AirPods at one price and then begin to lower pricing once all of the profit had been sucked from that initial market segment. Instead, Apple has been doing the opposite. Apple unveiled AirPods at a very aggressive $159 price, which sent shockwaves across the industry as the competition was priced closer to $300. Three years later, competitors are still struggling to match AirPods' $159 entry-level price.
Something Big
This AirPods evolution into a platform does not come as a surprise. Here was the opening paragraph from my initial Above Avalon article on AirPods shortly after being unveiled in September 2016:
“AirPods will turn out to be one of the more strategically important hardware products Apple has released this decade. However, you would never know it judging from the way Apple unveiled the device last week. I suspect that was intentional. While the press remains focused on the short-term debate surrounding the iPhone's lack of a 3.5mm headphone jack, few have realized that Apple just unveiled its second wearables platform.”
Three years later and that paragraph still rings true. AirPods have turned into a cultural phenomenon while dedicated headphone jacks on smartphones have become relics. Meanwhile, Apple’s wearables train continues to gain momentum as the company grabs real estate on our wrists and in our ears by bringing a new level of personal computing to the masses.
Listen to the corresponding Above Avalon podcast episode for this article here.
Receive my analysis and perspective on Apple throughout the week via exclusive daily updates (2-3 stories per day, 10-12 stories per week). Available to Above Avalon members. To sign up and for more information on membership, visit the membership page.