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Asymmetric Intelligence

iPad

  1. Beneath contempt: The Apple TV business model

    Research · 98 comments

    Last year we sold ... 2.8 million Apple TVs. This year, just in the first six months of our year we've sold 2.7.

    Tim Cook at D10 1:45.

    I note the "our" in "our year". This implies fiscal year (that and the fact that he spoke in the past tense before six months had passed in the calendar year.)

    Given the public information we have so far, it's now possible to estimate with some confidence the sales history of Apple TV. The following chart is my estimate. It includes all the known data so far with some interpolations to fill in the gaps.

    Assuming average revenues per device of $100, we can get an estimate of about $344 million in Apple TV hardware revenues for calendar 2011. This is not a large amount relative to Apple's other lines of business. It is, for example, only 14% of the overall Peripherals revenues and only 5% of the iPod.

    However hardware revenues are not the whole story. The business model for the device is in many ways the polar opposite of the business model of the iPhone. Whereas the iPhone employs "break-even" iTunes App Store (and the Music and Video and Book stores) in order to sustain its high hardware margins, the Apple TV business has low hardware margins that sustain content.

    The complete picture therefore has to include an assessment of the content attach rates and the agency fees that Apple gets for that content.

    Let's assume that each Apple TV is used to generate $10/month in content sales. This is not a lot. It's equivalent to 5 TV shows or one movie purchased or two movie rentals per month. The model I have shows that the installed base of Apple TVs was about 10 million by the end of 2011. That means that the run rate is $1.2 billion in content sales for the Apple TVs in use.

    Now Apple does not book all that. They book only about 30% as revenues as their agency fee. That means that Apple TV could be generating revenues at a run rate of $360 million (to Apple.)

    If we add that to the $344 million in hardware revenues we get about $704 million for 2011. This is still not a huge business. It is about equal to the revenue from iPad Smart Covers[1]

    Looking forward, if Apple TV units sell at double the rate of last year and we increase the footprint accordingly, we could see a revenue rate of $1.2 billion for 2012.

    Now this is not a high margin business. The margin on the content may be less than 50%--depending on transaction costs and hosting/traffic fees. The margin on the hardware is also likely to be below 40%. So the business is not wildly profitable. But it probably is profitable. Which means it makes sense to keep it running while waiting for other pieces to fall into place.

    As Tim Cook repeated, they are very interested in this space. However, any discussion of the future must include an analysis of the business model and the sustainability in terms of profit that keeps long term development focused on getting the product to be good enough for the right jobs to be done.

    What we should think about however is this "polar opposite" business model. Apple is running this as a "hobby" or as an internal experiment. Sales are (relatively) tiny but it generates some profit. Volumes are small but they are growing. It's taking a heck of a long time. It's asymmetric to the prevailing model the company relies upon. It's beneath contempt from all observers. Sounds familiar?

    ---

    Notes:

    1. In 2011 there were about 40.5 million iPads sold. If we assume half of those purchases also resulted in a Smart Cover purchase and if the average revenue per Smart Cover was $35 then total Smart Cover revenues were $709 million.
  2. The PC market overview for Q1

    Research · 64 comments

    In terms of units Windows-based computers made up 78% of all PCs sold in Q1. That was an increase from the 74% in the previous quarter but a decline from 90% a year ago. OS X based computers were about 3.7%, a decline in share both q/q and y/y, something the company attributed to a transition quarter.

    The following chart shows the composition of vendor volumes with tablet and traditional form factor computers included:

    iOS computers (i.e iPad) were 11% of the market, declining from 13% last quarter but increasing from Q1 '11's 4.2% share. Apple reported that the iPad was not at supply/demand balance and thus could have sold more units.

    Amazon's shipments went down significantly though sell-through was perhaps twice sell-in due to inventory build-up during the previous quarter. Overall, about 5 million Amazon Fire tablets were sold since the product's launch.

    The third significant tablet vendor was Samsung, which sold about 1.6 million tablets, down sequentially but up y/y. Other Android tablets may have shipped another 5 million units.

    Overall, Apple remained the top vendor with 14.6% share, followed by HP with 14.1% and Lenovo in third at 10.7%. Dell just barely managed to beat Acer with 9% vs. 8.9%.

    The impact of the tablet (aka iPad) market is being described in the response to a significant earnings miss by Dell:

    Sterne Agee, which admits it probably shouldn't have upgraded DELL from underperform last week, says it's notable that the PC maker acknowledged competition from Apple and Google for the first time as part of Tuesday's dour F1Q report and forecast. Meanwhile, Mizuho calls DELL a "show-me-story for now" in cutting it to neutral and cutting its price target 25% to $15. And ISI snarks "everything is bigger in Texas--including the misses." It adds while the company "is making the right business-model changes...results will remain 'chained' for years (not quarters) to commodity desktops/notebooks, which comprise over half of sales."

    - Dow Jones Newswires (Kevin Kingsbury)

    And so, two years later, the impact of the iPad is becoming abundantly clear, even to the incumbents.  The resistance and denial was profound. Even on this blog, the agitation and anxiety when the subject of the iPad as disruptor came up was palpable.

    Perhaps that is the greatest testament to the disruptive potential of a product.

  3. Interview with Bruno Ferrari of Exame magazine Brazil

    Research · 10 comments

    My thanks to Bruno Ferrari of Exame magazine Brazil for asking the following questions. My answers were written two weeks ago on April 2nd.

    Based on financial data of the first fiscal quarter, it is possible to confirm that 2012 will be the best year in Apple's history?

    Actually, it's possible to confirm without looking at first quarter data. Every business line Apple has except the iPod is growing and is likely to keep growing during this year. That means that sales will increase over 2011, which was Apple's biggest year. You can see historic sales growth data here:

     What are your predictions for the second fiscal quarter?

    I published my predictions here.

    The iPhone number seems to be higher than consensus. It's aggressive but I'm basing my opinion on the launch of the iPhone 4S in China and the Chinese New Year and new carrier agreement there. Also the iPad will do quite well.

    Do you think Apple will hold the iPhone 5 launch to September in order to open 2013 with an extraordinary result?

    The next iPhone will launch between June and September. It might be earlier due to the 4S being the "wide end of the egg". Think of the iPhone as an egg rolling down the hill. There is a sharp end and a wide end and the speed of rolling depends on which end is down.

    Besides the iPhone 5, which products that Apple could announce in 2012 you think may help them to maintain this extraordinary growth?

    I think the iPhone is becoming more predictable. What I'm more curious about is what they will do with the iPod. Apple takes its brands seriously. I am watching the iMac, MacBook and iPod for clues of a re-fresh or replacement as they have aged.

    Do you think we will see the “iTv”? Do you think it could be “the next iPad” of technology market?

    Apple TV is in waiting mode. It's like an airplane circling, waiting to land. Something will happen but not sure when. Fundamentally, the opportunities are still there but the entertainment industry is very complex. The more complicated it is the more necessary for an entrant is to create a parallel version of it. That takes time.

    The building blocks are all there however. See additional thoughts here.

    If we analyze the growth of Apple in recent years, it is supported by the launch of new products, especially the iPhone and the iPad. Do you think Apple can lower your rate of growth in coming years since we don’t see in its roadmap new innovative products like a new smartphone or a new iPad?

    New products created new growth but iterations of those products also created and will continue to create growth. Of all of Apple's products only one product is not growing today, the iPod. And that is after 10 years in the market and with a "dominant" market share. In addition, Apple has a lot of room to expand internationally and into enterprise and professional sectors.

    I do agree that 100% growth is hard to maintain without new products. I believe there might be a few products still waiting for launch. TV is one area (along with game-based entertainment). New user interfaces might be enabling new categories of products. Intelligent assistance and companionship are open problems that software can solve but which have not been productized.

    When do you think we’ll stop to see Job’s legacy in Apple new products. And what then?

    Jobs' legacy is not in specific products but in how products are built. He also taught the importance of putting products first and markets second (this is, at its base, an artistic principle, not a commercial one). I think that legacy can last forever, if managed properly.

    How do you analyze the dividends pay and the buyback made this month?

    I wrote some thoughts about it here. I believe the impact will be mostly psychological for investors.

    And finally, I was reading at Asymco some analysis of Apple’s share price. Do you think $600 is enough? Do you think in a 1 trillion dollars company in 2014 as some analysts are saying?

    The share price depends on the psychology of people. I like to say that Apple is the same exact company today as the one that was priced at $78/share three years ago. When I look out the window of my office I see the same view year-to-year. When I look on my computer screen at Apple's financials I also see the same view year-to-year. I don't know how people can see Apple differently one year to the next. To me it's like looking out the window and seeing mountains instead of the sea.

    But this is how markets behave. I can't say what the price will be. It may be $1000 or it may be zero. But the company will not change in either case. It won't change because it does not need to change.

  4. What did I get right and wrong about the first quarter?

    Research · 35 comments

    I analyze my performance every quarter to see if there is any pattern of error in my analysis. I devised a scoring method analogous to the grade point average system used in most US schools. You can read about the fourth quarter here.

    This quarter I made one public release of data here and a semi-public update on the iPhone shipments here.

    The resulting scores for both early and late estimates are shown in the table below:

     

    Overall performance improved with the later estimates but not enough to move the letter grade. In fact, the letter grade of B+ is the same as it was for the fourth quarter.

    The best performance was in (late) iPhone prediction and the worst performance was in Mac prediction. The Mac error was due to the relatively strong quarter the year before (which grew over 30%) and the lack of new product introductions. I did not think enough about these two conditions.

    iPod error was in the direction of underestimation. The iPod grew better than expected through the average price seems to have dropped.

    iPad error was quite modest at 3.4%. We found out after earnings that Apple was supply constrained. They indicated that they will sort out the supply/demand balance in the current quarter.

    Gross margin also came in well above estimates, reaching a record high. This is difficult to predict as many factors come into play.

    Overall the average error was less than 6% across all categories (late error). This means there was little wrong with the process of prediction. The seasonally adjusted growth for the iPhone and iPad remained consistent. Next, I will look at the scores for all the other public forecasts.

  5. Jim Zellmer interviews me about my life

    Research · 45 comments

    This is a transcript of a voice interview conducted April 19th 2012.

    The interview is available as an audio file here.

    --

    Jim Zellmer: I thought we'd start by describing your education from the beginning, Horace.

    Horace Dediu: OK, that's good, yeah. I like to say I'm the product of the public school systems. I went to public schools in three different countries, and probably maybe a dozen different schools altogether because we moved a lot, moved over 30 times.

    My family emigrated, and we were what you might call political refugees for a while. We were stateless. We didn't have passports. We were officially not citizens of any country. So, for a period of about four or five years, that was the case. I started having regular schooling in Romania, and then moved to Italy and was enrolled in a school, actually, in the city of Verona, which is where "Romeo and Juliet" was originally set.

    I was saying...my background. I spent a year in school in Italy, and I went to school in the north of Italy, in Torino. The thing was that I didn't know Italian, so I actually had to learn. But that's a lot easier for children. I was about nine, I think. And so, I learned Italian, was able to have a good school year. But then we moved.

    In the summer, we moved again, and we emigrated to the United States. It took about a year to get the paperwork for that--because that was our ultimate goal was to be in the US. I was enrolled in the public schools. First, in Cleveland, where we found someone to help us. I actually went to, I guess, elementary school in the city of Cleveland, where we lived.

    And then, later on, for middle school... What happened in Cleveland around that time was that busing started, desegregation. It would have meant, for me, more than one-hour journey across the whole city, from the west end to the east end of Cleveland, and my parents would have none of that. So, we moved to a suburb, immediately adjacent, which is called Lakewood. I went to middle school and high school in Lakewood, Ohio, for three years in high school.

    And then, we actually moved yet again, to Boston. My father got a job in the booming tech sector at the time, which was in the early '80s. I ended up in a suburb of Boston called Medford. We didn't know much. Again, we were flying pretty blind here. We weren't familiar with neighborhoods or what were good schools or anything like that--"good schools." Mostly it was a question of, "Can we find affordable housing?"

    Medford turned out to be a pretty lucky choice. In one hand, at the time, it was a blue-collar town. It was one of the near suburbs. So the closer to the city, it tends to be the older the immigrant generations are. It was settled mostly by Italian Americans. And so, a lot of the children I met in school were of some ethnic background.

    Again, in the Midwest, that was a bit more rare. So East Coast, for me, was a little bit more vibrant in the sense that there were more interesting ethnic backgrounds and people from different histories and so on.

    I enjoyed it, but I only had one year at Medford High School. It was actually more enjoyable, that year, I would say, than my years in Ohio. I have friends that I retained from that one year, and I don't have friends I stay in touch with from Ohio.

    But it has changed. The city since has become much more, I would say, a lot of those families moved yet again, probably to a further suburb, and has changed character. I think it's more Hispanic now, the city overall. Nothing wrong with that, it just probably would feel different to anyone there now.

    I was, again, in Medford. My choice, my next question, was where to go to college. I had been doing OK in school. And that was an interesting puzzle to solve as a kid, because you don't quite know how to fit in, the usual problems. Fortunately, having moved around so much, I had a pretty thick skin, and having had an accent or a strange background just made you a little bit tougher. And so, I was pretty immune to some of the high-school politics.

    I focused on studies, and my parents are both educators. My father has a PhD in mathematics, and my mother had a Master's in mathematics and she taught. Actually, her job was as a teacher. They both got certified as teachers in the United States. My father had taught, also, university in Romania, but he ended up teaching high school and other two-year colleges in the US. It's very hard to go into academia from another country.

    In any case, the fact that I had such devoted, academically inclined parents helped in focusing me on academics. That also, I think, was my nature. As far as college, my concern, we always had financial concerns, right?

    Jim Zellmer: Right.

    Horace: So, for me, I wasn't interested in the social aspect of college. For us, really, the decision was, "Can we keep expenses down?" I was accepted at Tufts University and also at Brandeis, which were local. That was important to me, that it would be near to my home and I could actually commute to these places.

    Tufts was slightly better. It was a little bit closer. It was actually in Medford. So, I almost went to the college that was nearest to me. It had a very good program, also, in both engineering and computer science.

    The odd thing is now, in college for me, was that - it's almost accidental - but, they had an option for you to take two degrees. The dual degree program was meant for people to study liberal arts and engineering. The idea would be you'd be a well-rounded individual.

    The weird thing is that when I went there, which is 1985 to 1989, the School of Liberal Arts included the mathematics department and included the computer science department, which is a spinoff of the math department. So, computer science was a Liberal Arts degree; whereas, engineering was like electrical, mechanical, and so on, the traditional subjects.

    I enrolled in the dual degree program with the intention of obtaining a computer science degree from the Liberal Arts School and a computer engineering degree from the School of Engineering. That meant that I would essentially take about 30 percent more courses. I think it was 50 credits versus the standard 30, or so. So, I was going for incrementally more material, but I would end up with two bachelor's degrees.

    That's what I did. I actually also did it in an accelerated fashion. I ended up doing that in three and a half years, rather than what they expected it to take, five years.

    Jim Zellmer: Wow.

    Horace: That involved a lot of summer school. I was actually going through taking some of the requirement courses in the summer. So, I was basically a student 365 days a year and I managed to get the two degrees.

    In the third year, there was one of these internship opportunities for research in a lab, GTE Laboratories.

    Jim Zellmer: I'm sure.

    Horace: GTE Labs was, again, local, which was important to me. They actually put us up in the dorms. So, the only time I spent living in a dorm was during the summer of my internship because it was paid for by the employer.

    That was a great time. I loved it. I absolutely adored it. Those years right at... In my third year, which actually was my, I guess, my second year as I was a junior a bit early, I was going through this internship and I was studying, I was going working in the research lab. Then I ended up doing my senior year, my last year, I kept going back there. Somehow they kept me around as a part time employee because the project I had been on turned out to be useful.

    It was in the library. I was actually working on indexing, which turned into search, which turned into Google later on, but we didn't know what it was then. We called it information retrieval. The algorithms, so we now do search intuitively when it actually became a commercial product, but it was something we did as research back then.

    It was great because I was getting the experience I wanted desperately, loved it, and then I was still in school and I managed to get my degree. I was even earning money while I was doing this. It worked out very well, but it was a very tough period.

    I graduated with not the highest scores, but I think I was magna cum laude, or something like that, which is not summa cum laude, but it's pretty good. It's like 3.8 GPA, or something like that. That's it. I don't know if that's what you wanted to hear. Then, of course, I did grad school.

    Two years, while I was still employed. I took a full time job at the labs, then essentially I did two years. In '92, I got my Master's in computer engineering. Then I spent about a year or two figuring out what to do next. I went to New York to have a bit of experience. Oh yeah, I remember. I applied to Harvard because I wanted to go to business school. The reason I wanted to go to business school was I didn't understand business.

    Jim Zellmer: [laughs] How did that play out? MBA's are often criticized.

    Horace: Yeah, I'll tell you how it played out. Well, first thing is this. I'm sitting with my friends. We're all engineers, hackers, if you will. We're like, "We don't understand. We don't understand how we get funded."

    Here we are sitting in these nice offices, but how does this company, who's basically a boring utility, how are they going to fund us to do cool stuff? We just compared notes and nobody knew. I realized none of us knew how business worked.

    I said, "Well, I better learn about this." To me, I had been so focused in engineering that all this business stuff, the only thing I knew was because I would read the "Wall Street Journal." I didn't have either friends, acquaintances, families. All my friends were nerds. All my family were educators. I knew nobody, literally not one person, who could tell me how the stock market worked.

    I would pick up the Wall Street Journal, read it cover to cover, and I wouldn't understand what the heck they were talking about. It sounded very abstract to me. It sounded like I need to learn something that there was something missing in my education.

    I felt that the only way to get that training was to go to business school. And so, I applied. I was rejected, and the assumption was, in my mind, that I was too technical, too focused in a very, very narrow niche. Back then, there were headhunters that were trying to headhunt people. So, one headhunter got a hold of me and they said they had an opportunity in New York. I said, "Oh, New York. I know they do business in New York. So I better learn more from going to New York."

    And so, I took a job with Chase Manhattan, at the time. It's called something else now, but it was Chase Manhattan. The job was also in IT, but at least it was IT, more pragmatic--corporate technology they call it. But I was there trying to understand more about business. I would still read the "Wall Street Journal" every day, still wouldn't understand it.

    I reapplied to business school. I told them what I did. I said, "Look, I took this job because I wanted to learn business." I think I somehow convinced them the second time because I was so mad to do these things.

    Jim Zellmer: Persistent.

    Horace: Persistent. Somehow, I got accepted. I'll never know how they made that mistake.

    Jim Zellmer: [laughs] Yes, of course.

    Horace: But, anyway, once I went there, I was like, "OK, teach me." Now, the problem was that you start to learn with the case method, and you realize pretty quickly that there is no real curriculum. This is actually a lot of examples you're being given. It's not even empirical. It's like, "Let's throw a lot of examples and see if something makes sense in a pattern somewhere."

    Jim Zellmer: This was Harvard?

    Horace: Yeah. So, Harvard Business School. It was the only school I applied to, because I felt I didn't know how to qualify quality in terms of business. It was just a brand name. If you know nothing about phones, you just buy the iPhone because you know it's the best, right? So that was me, very naive. And throughout the school, it wasn't as rigorous.

    In many ways, it was easy, because in engineering, engineering is very hard. You have to take test and you have to get answers right. And then in business school, it seemed like you just had to talk and you had to be articulate and you had to somehow be sufficiently smart-sounding to succeed.

    Jim Zellmer: The theater, aesthetics.

    Horace: Yeah. They drilled that into you. They said, "This is what we're teaching you is how to basically be a leader," and that leadership meant being proactive, not being passive. It meant getting in, if you will, on the discussion. I got that. I got it. It made sense to me because, yeah, in the meeting, if you sit there and say nothing, probably no one pays attention to you. You won't go anywhere in life.

    So that was one of lessons. The other ones were about vocabulary. What we're not learning here, however, is that there's axioms. There's no specific rules of business. In fact, if you were to put rules down, there'd be many which would contradict each other. One of the classics is that money now is better than money later. But you need spend money now in order to have money later.

    Jim Zellmer: [laughs]

    Horace: So these two things are contradictory. There were no rules in business that made any sense as if you were proving a theorem or something like that. I decided all right, let's just go with the flow. I met nice people. I learned more from a lot of people.

    The best thing that happened to me is that I had Clay Christensen as a professor. He was the nicest guy. The way he taught, it just resonated with me. He hadn't yet published "The Innovator's Dilemma." He was only teaching us operations, which is a first year course.

    It's the only technical course in the sense that you do some process diagrams and you do some analysis. Finance is another analytical course, but the math is pretty straightforward. It's not very conceptual, in a way. Accounting is not either. It's interpretation.

    But the professor, Christensen, he had a way of speaking to me that made sense as an engineer. It wasn't just me, there were a lot of people in the class who just felt that this guy was getting to the heart of a lot of the questions that we had. I took him as much as I could. I also had the option to take him in the second year. But, unfortunately, there was change in the dean and I think he had to change courses that he was teaching in the second year.

    In any case, we had a good two years there. My question was, what do I do after I graduate? This was 1996. The Internet, at the time, was just emerging. Netscape existed as of 1994 or 1995. There were no Internet business models per se. Certainly, there was a technology industry. But it was pretty much boring and either IBM or commodity PCs and you had a bunch of software companies like Microsoft and Adobe.

    It was already getting a little bit tired as an industry. As an MBA, it wasn't really that exciting. Everybody was doing either consulting or investment banking. Those were the typical ways of getting out of school. I had, of course, done something different. I did a startup. And nobody...

    In fact when I told people I wanted to do a startup everybody said "You came to the wrong school. No one goes to Harvard to learn how to do a startup. There are specific schools that  train you for entrepreneurship." Like for example, Simmons or something. I forgot the names now. Maybe that's a women's college. I don't remember the names.

    But the point is guys were saying "No, when you come out of here, you are either going to become a CEO of a Fortune 500 company or you're going to be a consultant for life or you're going to be in finance, managing other people's money or in private equity." I was like "Oh man. All right, well, whatever."

    Jim Zellmer: [laughs]

    Horace: I went and did this startup. I did a startup with no VC money. It was done with a partner in California who had raised money from the government using SBIR grants.

    We're talking the Department of Defense, and we were doing algorithms research. I went back to my university and recruited an engineer who I worked with in a basement office right off of Massachusetts Avenue. That was in '96. We built a system. We ended up licensing it to Adobe. It was a plugin to Acrobat. We didn't benefit much from it financially. Other people made a lot of money but not us.

    But we did learn a lot. So I'm thinking: In business school, I didn't really learn how business works, but I have this degree which gives me credibility. Now, I'm going to do my own business...

    Jim Zellmer: It's a ticket horse, yes.

    Horace: Yeah, but I did my own business. I threw away the ticket.  It didn't help me at all. What I was realizing, for example ... I didn't know how to do sales. I thought when you're doing your own business, you actually need to know how to do sales, and they don't teach you that at business school. I actually went and took a sales course, like they do in a daylong seminar.

    I'm saying there are so many pieces that are missing. I didn't know how VCs, how to handle VCs and how to do pitches and do all these things. And none of that was taught, so I thought, OK, what I'm going to do? I'm going to do on-the-job training. I'm going to figure this out. And [learn from] networking with people in technology.

    Eventually, I decided from the learning we had in the first startup to do another one, to do e-books! That was 1999. I'm trying to do an e-book startup in 1999. [So] I get on a standards body. I'm doing something with folks and I'm actually in a standards group that includes people from Microsoft, from Adobe, from a bunch of other startups, and from Nokia.

    Actually that's where I met someone from Nokia, who...

    At the time--it was 1999--I realized at that moment, with or without Nokia, I said, all computers are going to be handheld devices. This is so obvious. I can't express how obvious it is. I was interested, because Nokia had pretty much at the time the best mobile devices.

    Jim Zellmer: Yeah, they were the player, no doubt.

    Horace: I was asking myself, look, everybody in the U.S. doesn't get mobile. It's obvious that either it's Japan or Europe. And so, the question in my mind was, do I stay with the technology industry and try to figure out how this mobile computing will play out, or do I go to somebody who really knows mobile and expect that they will actually figure out how to become a computing company?

    I chose the latter, partly because they also offered me a job and the dot-com bubble burst, and I wasn't ever going to get funding for my e-book business, which was called Handheld Media by the way. It was a great idea, great business idea, that we would actually help publishers convert books. Because at the time, the publishing workflow didn't include exporting tools. You either went to print or PDF, and we had this tool that would reformat a PDF book into a publishable format, like what e-pub is now.

    Jim Zellmer: E-pub, right.

    Horace: At the time, it was called OEBF, Open E-Book Format. It was using HTML, a variant. I actually had a workflow I could execute on my own and I could basically produce e-books. I did a couple of dozen, mostly as trials. I remember them even now, actually going through and manually extracting hundreds of pages, fairly quickly though.

    But, anyway, that all came crashing down because although e-books were still interesting, there was no more funding in the docket. I had the opportunity to work with Nokia because they were actually very interested in launching something, not necessarily in e-books, but in media distribution. They wanted to sell music. They wanted to sell video. They wanted all those things in 2000. I came to them. Now, I'm playing my ticket, my bus ticket.

    [The job] was something about how to do business strategy. They hired me. I had this technical background as well. One year I spent based in Boston. But then I was fairly quickly moved to Finland because that's really where you need to be to have any career opportunities. I was young. I was not married. Finland has its charms.

    [I met] another American ex-pat who had moved there before I did and he extolled its virtues. I was pretty sold on that. Even though you pay more taxes, you get less wages, everything I did was economically the wrong thing to do.

    Jim Zellmer: [laughs] That's a learning, though, too. You've learned a lot. Looking back on all that, Horace, what might have been better or more effective? When you think about your kids today...?

    Horace: I don't know. I'm probably having too long of a chat on this, I mean fooling around this. But yeah, I'm very conscious of education, as I said. I realized pretty much after a year after leaving ... When I started Asymco, it's very weird. Again, you never know when you start down a journey where you're going to end up.

    It was purely going to be app development because apps were just starting out. Apps were really almost invisible or there was no development going on in Europe. So my idea was why don't I bring iPhone apps into the land of Nokia, because here it's a green field site.

    Jim Zellmer: Yes.

    Horace: But it was a tough sell. I got one customer, but it was very, very tough. I wanted to bring apps to small and medium companies. I was going to essentially do apps as marketing material, like apps that are essentially a branding thing.

    I was naïve also about the Finnish business culture because I think Finnish businesses are extremely conservative and that wasn't playing out. But the fortunate thing was that I began to blog because I had blogged while I was inside Nokia. I told that story about how I started doing it because I realized I wanted a bigger audience.

    Then when I left, people kept saying "Why don't you do that while you're on the outside, just for fun?" I took that year to figure things out. I  went back to writing my blog. Then, literally, everything was happening in 20 minutes. It was like a fire hose. I had to learn everything. I kept asking: OK, how do I do this?

    So, I am learning every single thing, because I had done it inside Nokia where it was movable type. It was a completely different system. I didn't have to set up anything. It was very simple. It was done for me.

    But on the outside, I am having to do it all myself. I started using actually iWeb, which at that time had a blogging tool. So, I opened an account on MobileMe. I was just putting everything through the desktop tools. They were right under my nose. Then I realized the limitations of that, and I moved to the next thing. I was like, "Oh! Seems like WordPress is something people use. Let's go to that." So, I went to WordPress.

    Then I realized, "Oh! Hang on! If they are hosting me, they are going to put ads in my stuff, and I don't know what they put there. So, I better host myself...how do you do that? " I need to find a hosting provider. How do you do that?"

    So, every technology, every bit of knowledge I had to have, I obtained strictly on my own. I say that every single character written in Asymco and every single mouse click that made it possible was performed by me.

    I had no technical support at all. It helps maybe to have a computer science background, but years had passed. So, I was able to... Here the key to the whole thing is that, every step, I am learning, and it keeps me motivated. I am like, "Oh! I understand how this works."

    I had some friends, who were more technical, and I would ask them, and they would say, "Oh! You are wasting your time. You can't get any traffic. This won't work." I would ask: "Tell me about Twitter", and they would say, "Oh! You're better off on Facebook." I was like, "Oh! Man!" Every single thing that I was given as advice turned out to be...

    Jim Zellmer: Wrong?

    Horace: Yes, doing the opposite would actually be the right thing. And so, I started learn about stats, the numbers game of blogging. So, how does that work? What does it mean to have good traffic?

    I didn't expect to get advertising revenue, but I was thinking: what does it mean to be successful? So, I would go to John Gruber's site. John puts up his own rates, and I am like, "Oh wow! Look at the numbers." He actually tells you how much he charges per week, and then he says he is fully booked. So, you know what his income is. And so, from that, I was like wow! That's my goal I said to myself.

    If I can get the traffic that Gruber gets, then I can charge these rates. I was trying to figure out how much traffic he was getting. He was getting like four million page views a month. I said, "I don't know if that's a lot or not." It certainly is a lot to get money, but you know, how do I get from zero to four million? So, what happened is that also when I was starting out, I reached out to John by email, directly by email.

    Some time before I mailed him and said, "I used to work at Nokia and there's a couple of things you're writing about that I wanted to amplify or I wanted to give you some background." He has great stuff, and he actually used my material in one or two blog posts. I wasn't blogging at that moment.

    But once I started blogging I mentioned to him, I said "Remember me? I sent you that info, and now I have my own blog." He didn't say anything. But then I wrote, I think the first piece that I wrote that was provocative. It was why someone at Microsoft had been fired or something like that. He linked to me. Then I saw. Then my eyes were open, because then my traffic... from zero to 12,000 a day.

    Jim Zellmer: Yeah.

    Horace: 12,000 views, for me, was like infinity. My server crashed and all that. I went back [to him] and I said "Thanks for the traffic. Now what do I do because I need money to be able to get this traffic managed." He said "No, you don't need money." You need to turn on caching." I was like "Oh."

    Jim Zellmer: [laughs]

    Horace: That solved the problem. But then I was asking him "So where do I go from here? Should I think about putting ads on my site? Is that the right thing," because I was so naïve. And he said "No, no, no."

    He gave me one piece of advice. This is the only piece of advice I ever got from and from anybody that was useful. He said "Don't put ads. Just do what you do. Your value is in the future. Just keep doing what you're doing." That's all he said, one line.

    I said "OK. If he says that, I believe it. That makes sense. Let's do it." I kept getting better at what I was doing, basically writing as well as I could, getting the feedback from comments and learning every step of the way.

    This is still going on. One year on, I learned what Twitter really meant. I didn't know Twitter. The first thing I learned at Asymconf was what a hash tag is good for. [I mean] I knew what they were. But I did not use them. I never used a hash tag before Asymconf because I don't use Twitter that way. I don't use it to look up stuff. I mostly use it as a way to get my word out and get feedback, just like a mini micro blog.

    But then I didn't understand the potential of a hash tag. It dawned on me when people were writing about Asymco and using a hash tag and if I searched on that I could find out everything that everybody said about it, a great idea.

    But that I learned again just a few days ago. So many things I learned, thousands and thousands of details. So many things that the tables are now turned. Now people expect me to teach them about blogging.

    Jim Zellmer: Yeah. [laughs]

    Horace: For example, how to get traffic. A lot of people are sending me emails with paragraphs and paragraphs of effusive, "Oh you are so great. Thank you so much. Can you help me with this?" I'm like "Well, you don't need to say any of those thank you things, just tell me what you need."

    A 15 year old sent me a request for an online interview. He made it easy. Five questions. So sure, I'll answer five questions. I treat everybody equally. Whether it's the Wall Street Journal or a 15 year old. I give them equal attention. I learn as much from both. The kids will teach you more, actually.

    Jim Zellmer: Given all of that, if you were entering college today, what would you study?

    Horace: I would still study engineering, absolutely. I am at heart an engineer. My son, I hope he does the same things I do. When I was a kid  I loved building things.

    I loved building Lego, although I didn't have money for a lot of them. I loved building model kits, the little plastic model kits, planes, and so on. That's not fashionable anymore, and mostly, it's old men who do it nowadays.

    Jim Zellmer: [laughs]

    Horace: [But] I'm trying to teach my kid. I actually bought a whole bunch of kits and began to model again so he could see me do it so he would get a passion for it.

    I think building things with your hands, learning how things work, being passionate about numbers and about technology and things that are tangible is the only way to really create if your mind works that way. I'm not saying it's for everyone. To me, that's the heart and soul of progress.

    By the way, I didn't mention this, but my parents also infused in me a love for the arts, and not "modern music". Being Romanians and of a certain age, they weren't ever part of the Rock and Roll, if you will, generation, although they knew of the Beatles.

    So, they listened to classical music. Throughout my life I was exposed. I was taken to the theatre, opera, ballet. I used to sit in these performances since I was five years old. I maybe didn't get it. I wasn't talented. I tried to play the violin. I wasn't good at it, but I understood, after repetition, I understood the value of that.

    When I went to that liberal arts college and got my degree, even though it was in computer science, I had a lot of requirements. I had to take English poetry. I had to take Japanese art. I had to take a lot of courses that were basic requirements. At the time, they were a burden, but in retrospect, they actually taught me a great deal. I'm very proud of having that background.

    I'm not saying to not have an arts education, but absolutely, if you have the skills and can execute or can perform as an engineering student, do that and do the other things. Do the other things which develop the other half of your brain.

    Jim Zellmer: Where did you learn to write, Horace? You write very well. Especially given that English is not your first language, you're able to be succinct and you have a wide ranging command of the language. So, where did you learn that?

    Horace: Reading, partly. OK, so I have to give a lot of credit, and I did once on Twitter, give a credit to my English high school teacher. I said if you like the writing I have on Asymco, you should thank her.

    Actually I wrote to her. She had seen my work in "The Boston Globe." It had been syndicated from that or something.

    Jim Zellmer: [laughs] Wow.

    Horace: She wrote me an email saying me an email saying, "I'm so proud to see your work and I sent it to your calculus teacher, as well."

    They were both retired. The calculus teacher had seen my work in the financial section, actually. He sent her a note saying, "Check out the. . ." They read the paper. These are from that generation, right?

    Jim Zellmer: Yes.

    Horace: I've never seen my work in print. I've seen it online, but there it was. I thanked her. What I said is this: What she taught me was to write plainly and write clearly. This was Medford High School, a working class neighborhood, nothing special about it.

    The teachers I had in English in Ohio didn't instill in me the same passion. The same books were read. Right? The same classics.

    Jim Zellmer: Classics, yeah.

    Horace: Twain and Conrad and all those classics, but the teacher in Medford, when I would write an essay, and also, I think, there was positive feedback because I was perhaps a little bit better than average in her class. Better than I was in Ohio. There I was about average, maybe.

    I had good grades, but I didn't feel like I was great at it. I was nervous because a lot of the tests were vocabulary, or a lot of the tests were not essays.

    This teacher instilled in me the passion for writing good essays. She kept telling me how great my essays were.  I was writing somehow, and I loved reading the books. That's the other thing, the other kids would cheat. They would read the Cliff Notes.

    Jim Zellmer: Yes.

    Horace: They would copy from each other or do all these things. I was like, "No, no. I want to go home and I really want to read this book. These are really nice books." So, a lot of reading, a lot of passion for reading and I think practicing with essays. Practicing, also, in the writing of work online.

    Now, again, when I look back at my early stuff, I cringe. It took me a while to find my voice. I didn't know what a voice was. I figured that out quickly. Then I had this challenge of working in the rigor of data. I realized the way to make my stuff stand out is to avoid opinion, to avoid hyperbole, to avoid all these things which bloggers seem to do.

    So, anyway, it took some time. I think there's both a lot of ability, like, Einstein said, "It's 20 percent ability, 80 percent perseverance or perspiration." It's just practice. The other thing is it's like an athlete, right? An athlete gets good because they practice every day.

    When I set out I said, "This is so much fun. I want to keep to it. I want to write a story every day. I want to write a blog post every day. I pretty much stuck to that. I was even writing on weekends, but I stopped because time, family. But, I write every day. I think of it as mental athleticism. You've got to go running every day if you want to be an athlete. You've got to write every day if you want to be a writer.

    I heard, later on, that Jerry Seinfeld said he wrote every day. That was his key to success. He always tried to write jokes every day. That, to me, is what I learned. You bite your tongue sometimes, you learn how to deal with comments. Through comments, you see exactly how people make mistakes. They make mistakes by getting ahead of their thoughts, or they are too impulsive.

    You get this great sense of what makes it good and I thought myself being able to write things. I write email in a good way, crisp in the email. You get a sense for it. For example, if somebody sends me ad copy, like a sponsor, and they send me a copy, I sometimes cringe when I look at it.

    Jim Zellmer: I noticed that!

    Horace: I can't help myself, I edit their copy, and even though they probably don't want me to, there is no time to go back and do feedback. But it's something you learn as a skill.

    Some other people have asked me, "How can I teach my son to write well?" To me, it's not about being able to do more, it's actually being able to cut stuff out, and just go straight to thought. Maybe it takes practice.

    Jim Zellmer: Now that you are a parent in Finland, your children are in Finland, so what choices do you have for your kids'?

    Horace: We are very conscious of that. So, I like [Finland]. Well, I came for one reason, because, it was a wonderful place to play. But I stayed because it's a wonderful place for families.

    What Finland's known for, among other things, is that it has the best scoring students on tests ...So, their educational system is considered absolutely in the top, literally top of the world.

    There's a lot of mystery about why that is, and you can't really put your finger on it. A lot of educators from Finland have been on world tours trying to explain what they do, and everybody comes away scratching their heads.

    I think this actually goes back to Christiansen theory, because when you study it people want to see a formula or an algorithm, but in fact, what is happening is, is something about whether the system is integrated or modular.

    Whether the system is centralized or decentralized. So, it's not a question of process. It's like when he approaches health care, he comes  at it from these two different angles. He says, "It's not about being public or private. It's being modular or integrated."

    The assumption in other countries is always that everything is modular, and it cannot be anything else. So, in a sense, you need to question down at the deeper roots of causality.

    So, my son, just to give you some perspective. He is now in pre-school.

    He is six now or he is in grade zero, as they call it here, and he is going to a French school, meaning that they speak French in class.

    Jim Zellmer: An immersion school. Yes.

    Horace: There are several language schools like this. We're going to the French one partly because his mother went to a French school, his uncle went to a French school and they have loyalty to it, but also because I'd personally like for him to learn a romance language because I knew one. I still know Romanian. I had learned Italian, and I took French in school myself.

    The thing is that it doesn't cost any more to go to that school than any other school. All education is free. Not everybody can get into any school, but it isn't about money. The other thing is that it's a small nation.

    There's only about five million people, so all the decision-making can be centralized. There is no local school boards. There's no organization down to the smaller units that you might imagine. It's very simple and it's top down.

    If you were to try to do a top down approach for a country as big as the United States it wouldn't work. You can't really transplant this system. People are very wary of centralization and control and the decision-making at the top that is incompetent. I completely understand that.

    However, this being a small nation, it works and it's central. There's a question of optimum size. I mean, in some sense five million might be the right, maybe 8, even 10 million maybe works. I don't know  beyond that.

    There's also the question of how different the people are in terms of homogeneity. Although Finns are fairly homogeneous, there are minority groups as well and there's been plenty of immigrants. I'm not an expert on any of this, but I'm just pointing out some minor details.

    I really like the school system. We actually had a parent teacher meeting this morning. They're very relaxed. Children seem to be much more relaxed. This is one thing that came across from the educators meeting and discussing around the world.

    There's no pressure. Even though they're performing exceptionally well, there doesn't seem to be that pressure on testing, on measurement, on all these things that supposedly correlate with performance. In many ways, it's asymmetric, or doesn't make sense to people who are steeped in education theory.

    I don't know if that's advisable, though. The problem, again, is that it may only work in this context. It may only work in the Nordic country, but we're very happy with the way it works. It's the same thing, by the way, with healthcare. Healthcare here is also centralized. It is a public resource.

    Jim Zellmer: Yeah. What's your sense of the teachers you've encountered? One of the things "The Economist" reported a couple years ago was that Finland requires master's degrees from teachers. Contrasting that with what you experienced in America and Verona and Romania, do you have a sense of differences in the teacher capabilities, or no?

    Horace: Because here mostly all degrees are considered Master's, it's essentially, I think, five years of school, of education. There's so many differences I can't even begin.

    My wife, for example, she has a master's degree. A bachelor's degree would be more equivalent to like a two year college in perception.

    Jim Zellmer: OK.

    Horace: So, if you have a technical degree...a lot of people drop out. They get out because it is somewhat  long and tedious and it is also not conducted in the American's style of valuing... It's so hard to explain. I actually would like him to go to university in the U.S., but I'd like him to go to every other school in Europe, or in Finland, more specifically.

    I think the U.S. higher education system is better. It's better because it actually doesn't teach you according to a cookbook. It's actually much more open. In a way, that's the opposite in the lower grades.

    Jim Zellmer: Yes.

    Horace: The lower grades are open and the students are given a lot more freedom, and the teachers are given a lot more freedom. So, it's the opposite.

    You'll see this, also, in Japan. Japan's educational system is a bit of a joke because they drill so hard in order to get good scores and get into a good university, but once they get into the university, they do nothing.

    The entry is your ticket. After that there's hardly any effort. I've heard from others that the way university programs here are, many students will stay in for 6, even 10 years. It takes a long time because they'll drop in and out. They'll take a couple of courses. They'll do something else.

    It isn't rigorous in the sense of, "Hey, the clock is running. This burns a lot of money. You've got to get a job to pay off loans." Because you've got that pressure on you in American universities, I think people actually are faster. It's more efficient. It tends to also draw more talent into it. The professors are more ambitious.

    So, there's something I like about the U.S. higher education system, although if you listen to Clay, he'll say that it's also being disrupted, and he's probably right, especially the bigger names are going to be pressured from online education.

    Jim Zellmer: Given your steep experience in technology and engineering, what is the role or is there a role for technology in education? Certainly in America and other countries we have all these people who say "Gee, our kids don't have iPads, they're just falling behind," among other things. So what is your perspective on that, Horace?

    Horace: Well, technology is useless without the software. Hardware is useless without software. Computers are useless without a job to be done.

    Jim Zellmer: Yes.

    Horace:  I believe technology will help, but we have to make sure that we solve the job problem with technology, rather than saying that technology itself is this answer. I think the iPad has potential because it enables the content to come through again. What you might learn by using it is focused on the content itself.

    In other words, a computer was always hard to use. Most of the time you spent using it was actually learning how to use it. So you have to fight through it to get to the actual content and material was supposed to teach you something. Even the way that it used to be, that there was a computer room or a computer lab and you would go and sit in front of these computers and there were all these things considered.

    In other words, it got in the way. I think that what the content needs to do is be more pervasive. You need to give the platform to someone who can build something on top of it, someone who can actually create new content, new material, new ways of teaching.

    The real innovations that I've seen have been the Khan Academy or even Ted Talks or something along the lines of video content that is packaged in small pieces that people can take and learn at the rate that they're comfortable with. That makes a lot of sense to me. I don't know how that can be worked to the K-12 system because that is so regimented. But I think kids having iPads seems to be potentially a breakthrough opportunity there for how to really teach.

    It's all going to come down to the materials. Is this a platform that teachers can build stuff on? The only thing I have to criticize the system for is that it's still not possible for laymen to create material for it. We need more and better tools that sit on top of the tools we have. So abstract from the hardware so you can create great e-books, you can create... experiments and so on.

    Jim Zellmer: Right. Well, that's great. I appreciate your time today, Horace. Perhaps we can continue this again one day on education, which certainly continues to change. Again, good luck with the French school, with your son.

  6. The parable of Nintendo

    Research · 109 comments

    With the launch of the Wii console, Nintendo averted disaster. When the Wii launched in late 2006 Nintendo had been facing the simultaneous attack from the "seventh generation" Xbox 360 which launched a year earlier as well as the PlayStation 3, both of which set as their bases of competition 3D graphics at HD resolutions. Many wrote off the company and called the console market a two horse race.

    Then, in what seemed a desperate downward leap, the Wii was launched into a different trajectory. It addressed non-consumers with a new, more intuitive controller and standard resolution rather than competing for hardcore gamers with more power and richer graphics.

    Because the Wii was asymmetric and addressed non-consumption rather than trying to be a "better" console in what was becoming a horsepower race, Nintendo expanded the console market. Its innovation was interesting enough that many hard core gamers used the console in addition to a PS3 or Xbox and many non-gamers bought it as their first console.

    The result is that 95 million Wii's have been sold vs. 66 million Xbox 360's and 62 million PS3's.

    The effect of the Wii introduction on Nintendo's console unit sales is shown below (pink line).

    The graph above shows that the growth from Wii has stopped. In fact, the console has been in decline since early 2009. Fortunately for Nintendo, the company also developed a mobile strategy. Learning from its Game Boy device, its DS series of portable game consoles allowed the company to diversify its portfolio. The graph also shows the total portable units sold in blue.

    However, this strategy has not been enough to protect the company from the disruptive effect of mobile computing. As the following chart shows, each new generation of portable from Nintendo has failed to break out of a general pattern of overall decline.

     

    Contrast the DS product patterns with the iPod touch and iPad--multi-purpose products whose game functionality is "good enough" but whose communications and general-purpose app catalogs are re-defining the basis of competition yet again.

    Nintendo bet on the 3DS to reboot the franchise. The 3DS product does show the characteristic initial spike in adoption but the level it launched at is far lower  than the level of the iPad. Nintendo has a big hill to climb to even recover the volumes it held in 2009. In contrast, the usurper Apple's volumes are doubling each year.

    When products are compared as "ramps" in terms of growth post-launch the story becomes even clearer.

    Although the iPhone and iPod touch ramped in similar ways[1] to the gaming platforms, iPad took an entirely different path. The 3DS benefited temporarily from a price cut but it seems to be returning to a well-worn trajectory.

    The data points a bleak picture for Nintendo. The Wii was a success due to its competitiveness vs. non-consumption of gaming. But another low end disruption took hold in 2007. Good enough games on phones and mobile computers are taking consumption away from dedicated consoles, both fixed and mobile.

    In addition, the rate at which game experiences are improving on iOS imply that they will overtake the "quality" of consoles in the not too distant future. Differences in distribution models also guarantee lower pricing for software for end users and enabling a far larger catalog of titles.[2]

    This may sound like another story of fortune gained and fortune lost. The inevitable "what goes up must come down" aphorism. We become used to this pattern and assume it to be axiomatic. But there are causes for each success and causes for each failure.

    The lesson here is that a company that disrupts does not necessarily survive. Long term survival depends on the ability for serial disruption. Serial disruption is an uncomfortable state for an organization to exist in. As the story above shows, disruptions are usually enabled by "desperate" necessity. Desperation is not something management is trained to aspire for.

    What management strives for is steady state satisfaction and predictability from intelligent planning.

    ---

    Notes:

    1. Though the iPhone ramp matched the consoles, the growth for the iPhone is persisting at 100% y/y five years into the product. This means it is outstripping all console installed bases by at least a factor of 2.
    2. The catalog is not only broad but deep in the sense that there are many new game concepts and experiments being tried. The app store is a vast testbed for game and entertainment ideas.
  7. Estimates for Apple's second fiscal 2012 quarter

    Research · 74 comments

    As the chart below shows, the last quarter (fourth calendar 2011, first fiscal 2012) was robust with 116% earnings growth and 73% net sales growth. I've heard many superlatives used to describe it. It is certainly exceptional but it was not as good as the second calendar quarter of 2011.

    Sales grew faster both in CQ1 and CQ2 of 2011 and earnings grew faster in CQ2. It was in many ways a return to normality due to the iPhone returning to 133% revenue growth after the lull of the transitional third quarter.

    Now it's time to consider the current quarter. It's already quite late in the quarter to make predictions, but I waited to hear some data about the iPad. The iPad remains a difficult product to forecast. Mainly because it is a new category and the pattern of growth takes a long time to establish. We've only had three quarters where y/y growth could be measured. Sales growth has been 180%, 146% and 99%. Unit growth has been 183%, 166% and 110%.

    These rates have been higher than the average iPhone growth rates (average of which was 100% in units and 108% in revenues over the calendar 2011). Indeed, the average iPad growth rate so far seems to be 150%.

    Is it sustainable?

    The answer from this latest launch seems to be yes. The following chart shows the launch performance of the various iOS devices whose launch performance has been announced.

    The growth in launch performance between iPad 1 and iPad 3 is a factor of 28. iPad third generation had broader distribution but the volume boost from first generation is enormous. This implies a vastly improved production ramp. As the product remains supply constrained, the most important indicator of performance is production throughput.

    So given this data on the iPad and the ongoing broadening of the iPhone distribution network, here are my first quarter estimates (with y/y growth in parentheses):

    • iPhone units: 37.3 million (100%)
    • Macs: 4.7 million (25%)
    • iPads: 12.2 million (160%)
    • iPods: 7 million (-22%)
    • Music (incl. app) rev. growth: 40%
    • Peripherals rev. growth: 25%
    • Software rev. growth: 10%
    • Total revenues: $42.7 billion (growth: 73%)
    • GM: 44.7%
    • EPS: $12.0 (88%)

    This earnings value would imply a trailing twelve months’ EPS of about $40.7. At $600/share the P/E would be 14.7. Cash and equivalents will probably increase to $108 billion.

     

  8. The new feeds and speeds: iPad vs. MacBook Air and iMac

    Research · 84 comments

    At last year's iPad 2 launch, I compared the specs of the newly announced iPad with those of a laptop and desktop from five years earlier. This year I am comparing the new iPad with Apple's computers from four years earlier:

    The new iPad now exceeds the total display resolution, has similar speed and storage capacity while having twice the battery life of the thinnest laptop of four years ago. It also has very high quality cameras and GPS and cellular network connectivity which have yet to appear on mainstream PCs. It's still a lot smaller and half the price and has a larger selection of available software titles at prices a fraction of its elder cousin.

    The only value that a desktop of 2008 has over a new iPad is the size of the screen and a larger hard drive.

    The point is not so much that the usurper is a "better" computer but that it has come from non-existence to being a contender in two years. It is also narrowing the gap to its comparable ancestors by one year, every year. Arguably that gap now stands at four years.

  9. When will tablets outsell traditional PCs?

    Research · 46 comments

    I truly believe, and many others in the company believe, that there will come a day that the tablet market in units is larger than the PC market.

    Tim Cook Discusses Q1 2012 Results - Earnings Call Transcript - Seeking Alpha

    Question is when?

    I began by projecting growth rates of various market participants including the leading Windows PC makers (HP, Acer, Dell, Lenovo and Asus), the combined "others" and the Mac. I also added the iPad, Samsung's tablets, other Google sanctioned Android tablets and Amazon. I also projected a split between traditional and tablet Windows shipments.

    The underlying assumptions are:

    1. Mac growth continues at 25% as it has on average for a few years
    2. Windows grows slightly in 2012 with the introduction of Windows 8 late in the year. However I anticipate Windows 8, including tablet versions, to mostly be upgrades with slow enterprise take-up within this time frame.
    3. The tablet versions of Windows begin shipping in Q4 2012 with 7% of total Windows shipped. The ratio reaches 20% by end of 2013.
    4. iPad growth will flatten for '12 and '13 at 100%, similar to iPhone's historic performance.
    5. Android tablet growth will be significant in the current year and follow iPad growth pattern though settling at 80% during '13.
    6. Amazon growth will be approximately 80%.

    Building the platforms combined growth bottom-up gives the following forecast for the next two years (and historic growth shown for perspective.)

    [FF = form factor]

    Given these assumptions, the day when the tablet market (by units) will exceed that of traditional PCs will come sometime in the fall of 2013.

    As yesterday's post noted, the tablet market will be additive. This can be seen in the vendor shipments forecast that accompanies the model:

  10. How much does it cost to manufacture an iPhone?

    Research · 103 comments

    An iPhone generates approximately $650 in revenue for Apple. This figure has remained fairly steady over time. Using deduction from overall margins, it's possible to estimate the gross margin on the product to be around 55%.

    That means that the cost of goods sold (COGS) for the iPhone is about $293. Is that a lot? Where does that money go? What else does it tell us about how the company operates?

    To find out we need to understand the cost structure of phone building.

    Typically there are four main categories of costs for a phone:

    1. Bill of materials (BOM). This represents the cost of the components that go into the device. These are paid to suppliers.
    2. Transportation/warehousing. This is the cost to transport and store the product before sale. This is paid to shipping companies and warehousing.
    3. Manufacturing cost (including labor). This is paid to contract manufacturers.
    4. Warranty expense. This is paid back to customers for returned product that can no longer be sold.

    We can estimate a device's BOM through a teardown analysis and there are firms that do this. Usually this offers enough competitive insight into the cost structure and hence gross margin because the other items are predictable in that they do not vary greatly from product to product.

    In the case of the iPhone the BOM has been fairly steady around $200 for a new model. That leaves quite a big gap to the overall COGS of $293.

    Could transportation, manufacturing and warranty costs really add up to $90 for an iPhone?

    The manufacturing costs are not usually discussed in detail openly because the processes used are secret. However, thanks to and ABC Nightline report,  some clues have emerged about how iPhones are built and, although incomplete, they offer some interesting bounds.

    One data point recently published is that the iPhone takes 24 hours to be built. Of that 6 to 8 hours is spent in "burn-in" to install and test the software and components automatically. This leaves about 17 hours unaccounted for in the throughput time. Could this time be spent in labor intensive operations? In the ABC report the wage of workers on the line is given as $1.78/hr[4]. 17 hours of labor input would imply $30 labor cost per iPhone. That seems a lot higher than the industry (i.e. iSupply's estimate is $8 for manufacturing cost.)  This is an upper bound. Obviously, those 17 hours could be spent in automated operations which were not shown or simply sitting idle, waiting for a process to begin.

    Is there another way we can check this?

    There is. The ABC report also mentioned that there were 141 (presumably labor) work steps in the production for an iPhone. If we knew the time each step took we could obtain another estimate. For example, if each step in the human assembly process took 3 minutes[2] then human hands will touch the iPhone for 423 minutes or about 7 hours. This would imply a labor cost for an iPhone of about $12.5. If each step was longer or shorter, the cost would vary accordingly.

    Unfortunately we can't be sure of the exact cost. However, these recent clues offer some interesting bounds and observations[3]:

    • Manufacturing costs for the iPhone are likely to be much higher than comparable devices. This is partly because of the design of the product and partly because of the quality testing needed.
    • Those costs are likely to range between $12.5 and $30 per unit.
    • The iPhone manufacturing costs are likely to be twice or three times the average.
    • Labor costs are still a small part of the overall cost structure at between 2% and 5% of sales price.
    • The high level (141 steps) of human interaction in the process could be automated however, the fact that it isn't implies that the cost of automation would be higher and the flexibility of the automated process would be lower. It's much more likely that the process is a mixture of labor and robot intensive sub-processes.
    • Even if we assume a $30 manufacturing cost, there is still $60 that needs to be allocated to transportation and warranty expense. These require sanity checks as well.

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    Notes:

    1. Note that R&D (engineering and development) and Sales, General and Administrative (e.g. Marketing) costs are not part of this cost structure. They are considered fixed costs and are not allocated to individual units of production.
    2. Note that during the ABC video there was mention of automated instructions being broadcast to the line. This implies that each worker is working on a "clock cycle" and each work stage is timed to take an equal amount of time. This clock cycle time is crucial in understanding the cost structure. One further clue to this cycle time comes from the iPad output rate per worker. This was mentioned in the slide show to be up to 6,000 units per day. Assuming 10 hours of working time per day means 600 units per hour or 10 per minute. This seems extremely high as the worker would have to handle the product for only six seconds. [UPDATE: Apple clarified this point: "In manufacturing parlance this is called deburring. Her line processes 3,000 units per shift, with two shifts per day for a total of 6,000. A single operator at Ms. Zhou’s station would deburr 3,000 iPads in a shift"]
    3. As this post shows the amount of information that can be obtained from observing operations can be significant and lead to competitor advantage. It should be clear why this is not something done willingly.
    4. UPDATE: In a statement Foxconn clarified wages as "We have over 75 percent of the employees in the category of earning at least 2,200 RMB ($349/month) basic compensation standard. That means they are earning 13.75 RMB ($2.18) per hour".