Apple is gaining power because of profits
July 24th, 2012
Daniel Eran Dilger
Ready to be blown away by an epiphany of the obvious? All of the talk over the last 20 years about how “delivering innovation” was the factor selecting success in the tech world was wrong. Here’s why.
Back in the late 70s when personal computing was just sprouting, Apple was a leading star with its Apple II line. It then was broadsided by IBM’s PC in 1982, followed by a bold effort to take back its former position with the 1984 Macintosh. A decade later, Microsoft’s Windows 95 essentially knocked Apple out for the rest of the 90s until the company came fighting back with the iPod, iPhone and iPad, rapidly retaking the position as the leading maker of personal electronics.
If you hear people talk about why Apple went up or down or back up again, or why IBM or Microsoft or anyone else has gained ground, it always gets associated with “innovation,” a fancy way of saying “new.” They thought up new stuff and that allowed them to take back ground. But this really isn’t the case.
It all comes down to whether companies could profitably monetize the new things they were making. Innovation is necessary, the same way “effort” and “operational management” are necessary. But there’s nothing about hard work that guarantees success unless that hard work can be translated into profitability (at least when success is defined in terms of dollars, which it is in business).
Dollars are just a currency for the idea of being able to do something. So having money literally means having power. And today, Apple has over $100 billion of ability to do things.
Consider the IBM PC and Windows
When Apple clashed with IBM PC in 1982, the question wasn’t whether IBM’s PC was more innovative. It clearly wasn’t on any technical level, having been designed by IBM to avoid competition with its other, established lines of business.
There wasn’t any key operational innovation going on, as IBM wasn’t hitting much lower price points (something the PC cloners later did achieve) or building PCs using innovation in manufacturing practices that Apple lacked. IBM’s margins were similar to Apple’s, it just had a bigger market.
IBM gained ground over Apple’s early computing products because it changed the target market from an early adopter business to a small segment of the established, mature market for business machines. IBM could afford to make nothing on PCs for some time, starving Apple of profits.
But it wasn’t IBM that ended up taking advantage of this market dominating leverage; it was Microsoft (through software licensing, taxing the new PC market) and PC cloners (introducing operational efficiencies that made their PCs much less expensive and/or more profitable than IBM’s).
Microsoft suddenly began reaping a huge percentage of the PC market’s profits, and could use these vast revenues to set up contracts that effectively blocked competitors out of the market. PC cloners fought amongst themselves, partnered with Microsoft, and struggled to make enough profit to have a voice in where the PC was going.
Apple lost ground. IBM lost ground, PC cloners lost ground (and merged together, or went out of business), and Microsoft invested its profits in creating a new products that helped entrench its position (Office, Server). Microsoft’s power just kept growing, because of its profitability.
Apple was innovating, if not one of the top innovating companies of the 1980s and early 1990s. Apple’s engineers invented QuickTime video for Macs at a time when PCs couldn’t play back audio reliably. There were plans in place to put the Mac interface on UNIX, and in the parallel universe of Steve Jobs’ NeXT, Apple-style innovation continued among a lot of ex-Apple engineers.
Compared to the progress of innovation between Apple and NeXT, Microsoft was leading the world backward. However, neither Apple nor NeXT are thought of as having much impact on the direction of technology from 1990 onward. So no, it’s not innovation that puts you in the driver’s seat. It’s profitability.
Microsoft was generating vast profits on software licensing. NeXT wasn’t able to sell much of anything. Apple was remaining profitable but not on the scale of growth that Microsoft had achieved. So Microsoft got to lead the world though the 1990s, and what a boring trip that was. The only people impressed with Microsoft’s technical deliverables were people who dismissed (or weren’t familiar with) the advances that had already been delivered in the 1980s.
Consider the Macintosh
The desktop software Microsoft delivered throughout the 1990s should have made Apple’s Macintosh look archaic, the same way today’s HDTV panels make those big tube TV from just ten years ago look ancient. Instead, Windows 95 inspired a sad nostalgia for the well constructed, intuitive, nice looking designs Apple had produced more than a decade prior. Microsoft’s Samsung Q tablet similarly made the decade-old Newton MessagePad look superior.
Now compare the Macintosh with Xerox Alto: the Alto felt like a huge generational leap backward, despite being developed to cost ten times as much as the Mac. And it was only about half a decade old when then Macintosh shipped. Every new version of the Mac System Software pushed it ahead, up until 1990.
In the 1990s, System 7 ambled along with no clear innovation, even though millions were being invested within Apple to update things. But Apple didn’t fall behind the curve because it wasn’t innovating enough, particularly compared to Microsoft. Apple fell behind because it wasn’t making enough money, and because it wasn’t enriching others to help it succeed.
Microsoft was not only making tons of money on licensing its own software, but was also creating a world around the PC where computer and peripheral manufacturers, software developers, trainers and support technicians were all earning money (the only reason Microsoft had lovers at all). This, not any leadership in “innovation,” was what propelled Microsoft to the leadership role in the 1990s.
Consider the iPod
Jump ahead one decade and you have Microsoft producing the Xbox and Apple introducing its iPod. The Xbox was never directly profitable, but it did enrich lots of peripheral developers and studios. But the iPod was directly profitable from the start. Both involved some innovation, although in reality, both were clever packaging of minimal technology that let users do a simple task that had been done before (if not as well).
Apple’s direct profitability with the iPod enabled the company to do things that all of its innovation (including the acquisition of NeXT and the development of Mac OS X) had not accomplished. Without the iPod, Apple simply wouldn’t have had the money to keep working on other innovations. More importantly, the iPod also gave Apple a peripheral ecosystem of partners who benefitted from its success.
Apple’s iTunes, like Microsoft’s Xbox, has never been dramatically profitable. Instead, Apple uses iTunes (and its App Store and iBooks children) to foster a peripheral moat of support from third parties. Like Microsoft’s Xbox, Apple’s iTunes is paid for by other successes. Unlike the Xbox, Apple has used its not-for-profit hub of iTunes to spin off highly profitable hardware: a decade of new iPod models, five generations of iPhone, and of course, those three iPads.
Apple has certainly cranked out a lot of innovations, but it’s the focus on profitability that has enabled the company to do that. One could try to argue that innovation and profitability are two sides of the same coin, but that’s not really true. Microsoft was very profitable without delivering much real innovation, and there are lots of innovative companies and groups that never see the light of day, or wilt in the sun like the WebOS group at Palm, simply because they can’t generate profits fast enough.
While there are lots of brilliant startups that have realized that a good idea and great work are no match for actually being able to make money. I can’t think of any examples of companies that are making money hand-over-fist who are really worried about how much “innovation” they have delivered in doing so, however.
What’s the point, Dan?
When you see tech pundits comparing Apple’s iOS with Android, for example, ask yourself, is this really about innovation? Google has delivered a series of new features for Android, some of which were immediately adopted by other platforms, and some of which are still unique to Android.
But Google isn’t earning money on Android. And even worse, most of Google’s licensees aren’t earning money on Android. Samsung is the primary successful Android licensee, and that success isn’t related to Android as much as Samsung’s ability to copy Apple’s designs and translate that into earning money.
Windows Phone 7 hasn’t earned money for Microsoft, and isn’t earning money for its licensees. One doesn’t have to contemplate how much innovation has occured. The fact that it is so well positioned on an operation level (with major partners, no deployment constraints) indicates that Microsoft’s problem isn’t in “delivering innovation” but rather in delivering a product that has the potential to make money. Microsoft’s partners are doing far worse than Microsoft itself. That’s not good.
Also, keep in mind that, from 1997-2002, Steve Jobs took Apple’s abysmal System 7 and turned it into several versions of Mac OS 8 and 9 that he was able to sell (after a decade of Apple’s struggling efforts to get anyone to pay for retail boxes of Mac OS software). There wasn’t a lot of pure innovation going on there, as much as productizing and marketing existing technology. Jobs clearly led Apple back to innovating, but the path to get there required profitability.
So you have pundits wringing their hands worried about whether Apple will be displaced by a sudden surge of interest behind Windows 8/Surface/Windows Phone 8 and/or Android. This seems a lot like worrying that a washed up old IBM, incapable of delivering competitive PCs, would knock the juggernaut of Windows 95 out of the water in 1996 with a product like OS/2 Warp. Are you kidding?
Apple controls the industry because of its profits. The sign that Apple has lost its control will be when some other company comes up with highly profitable products that are either cheaper/better smartphones/tablets/PCs, or neighboring devices that compete for customer’s money (the way the iPod’s profitability empowered Apple into the lead in other areas) or distantly peripheral products and services that have the potential to replace the hardware business Apple has built (the way the iPad snuck up and stole the PC business away).
Apple’s earnings today should provide some clue as to whether anyone is sneaking in an stealing away its leadership role. Because when it comes down to leadership in the tech industry, the company with the gold (not the fancy futurist videos about their innovation plans) makes the rules.