Chart Fun | A Bite Of Apple
Apple released its latest 10-K recently.
Yours truly is a fan of long-term history.
The 10-K is a good excuse to take a bite of Apple’s historical evolution, and consider how Apple would like in the coming decade. As with all things pertaining to the future, the following should be considered as one observer’s musings. Reality has no obligation to adhere to assumptions; and it may look dramatically different from the version posited here.
A SHORT HISTORY
In the 90s, Apple struggled through a period of uncertainty. The company looked very different back then compared to today. It was primarily a Products firm, which looked like an average-run-of-the-mill products firm, despite its strong brand value. Margins were wobbly and revenue growth was sketchy.
Things changed with the launch of the iPhone in 2007/08. iPhone sales went from $0 to $100 billion in around 5 years. iPad, wearables, accessories started firing as well in the 2010s decade. The most notable change, however, is the growth in the Services vertical.
Services comprises of sales from advertising, AppleCare, digital content and other services. Services net sales also include amortization of the deferred value of Maps, Siri, and free iCloud® storage and Apple TV+ services, which are bundled in the sales price of certain products.
As Apple’s complexion has changed over the past two decades, its profit profile has undergone a transformation. From a wobbly company in the 90s, Apple now resembles a top-brand-name monopolist: extracting superlative profits from multiple verticals.
Some of this is attributable to its changing cost structure.
In the late 90s/early 2000s, R&D spends were 5–8% of sales, while S&A spends were high as well (high teens %). Apple needed both these cost levers to fire simultaneously. As the brand strengthened over the subsequent decade, SG&A spends dropped to 6–7% of sales. R&D spend, meanwhile, dropped to 2–4% of sales. Apple built the success stories of the iPhone, and iPad despite this drop in R&D spend. The brand, basically, ‘sold itself’. Outsourcing of production has also contributed to low inventory spends (inventory churn has been an outstanding 9 days over the past few decades).
The sum total of these has led to an Apple that looks like a hegemon monopolist; that relies on strong brand value to own the customer relationship at multiple touchpoints, while extracting superlative economics.
How will Apple look like in a decade?
It is likely that Apple will continue to transition into a Services-first company. Product replacement cycles are lengthening; and while unit prices have increased in general over the past decade, the next decade is unlikely to see this behavior continue.
The iPhone, and other Products, will likely morph into top-of-the-funnel feeders: creating a path for monetization in the Services piece of the value chain.
As this transition plays out, growth rates will likely slow down compared to history. However, its profit profiles will likely strengthen materially from today. Services is a 60%+ Gross Margin business. Products are a 30–32% Gross Margin business.
Offsetting this is the sword of regulation and the threat of break-up
Apple’s recent issues with App Store take-rate will assume importance as this transition builds itself.
A chief risk is the cut to take-rate; either by regulation, or by Apple’s own actions to prevent a ‘developer strike’.
Barring the top developers that can afford to ‘go direct to consumer’ (e.g. Spotify), most App owners would need Apple (and Google) more than the other way round. This confers strong negotiating power to Apple (and Google) in this battle.
Compared to Google, however, Apple is more dependent on the App Store to drive its Services transition.
Google Play and associated revenue are a smaller proportion of Google’s revenues (part of Google other, at 10% of Google’s revenue); compared to App Store contribution to Apple’s revenue (part of Services, 20% of Apple’s revenue).
Also, Apple’s lack of a footprint in Cloud puts it at a relative disadvantage to Google, Amazon and Microsoft.
Net result is that adverse Regulatory Action on App Store remains a chief risk for Apple’s fortunes.
Apple’s use of Cash
Over the past decade, Apple has generated a little over $600 billion in operating cash flow (adjusted for share-based compensation). Primary use of this cash generation has been payout to shareholders (nearly 80%).
Apple has been light on acquisitions over the past decade (under $9 billion). This may change in the coming decade.
Potential areas of acquisition interest could be:
- Collaboration software (Slack?)
- Video/Audio Streaming (Spotify?)
- Gaming
- Payments
- Cloud (Rather than be late to the Cloud vendor game, Apple may look at Integrators/Ancillary plays?)
- Others?
The other avenue for reinvestment will likely be R&D.
Apple’s R&D spends have been inching higher over the past few years. From 2–4% of sales, R&D spend is back up to 6–7% of sales. This will likely be stepped up, as Apple battles to retain its competitive edge versus other Big Tech peers.
Apple’s profit profile (and valuation) over the next decade will likely be subject to two opposing forces:
- Transition to higher margin Services business,
- Regulation, and increased Cost structure, to retain competitive edge.
How can Apple win?
The coming years will be fun to watch.
