Is Apple killing software biz with iPhone, iPad and iOS? Part II: The ultimate revenge of Steve Jobs

This is Part II of  “Is Apple killing software biz” feature. Check here for Part I “Show me the money”.

Apple’s business model focuses on making a profit on hardware. Surprise – they have more in cash than the entire net worth of Amazon, which makes the rival Kindle tablet line.

Despite a recent drop in its stock price, Apple is also worth more than double Google, which makes nothing on hardware. In fact, Google may lose money on Nexus hardware. Their goal, of course, is to make that money back (and much more) in software and ‘soft’ services. To date, this strategy has failed – Android has cost more than it’s generated.

Similarly, Apple is worth more than double Microsoft as well. Microsoft licenses its Windows Phone 8 platform and has long made nearly all its money off software. Apple is not just worth more than Microsoft, Apple’s profits are greater as well. If software is eating the world, why isn’t it eating Apple’s profits?

Apple continues to grow: iPhone sales are growing, iPad sales are growing. Its competitors, meanwhile, scrounging to make profits elsewhere, have come to the realization that they must become hardware companies!

Google dropped $12 billion on Motorola. Amazon makes Kindle. I suspect Amazon will soon make their own smartphone line as well. Microsoft introduced the Surface tablet – hardware that they make. CEO Steve Ballmer has strongly suggested that the company will move further into hardware. In the past ten years, has this once great software company introduced any successful product other than the Xbox, hardware?

Is hardware now required to make money in software – at least in consumer markets? Let’s examine recent data points:

  • Google Android is responsible for 72% of last quarter’s smartphone sales – but Google refuses to give us solid numbers on what revenues those 120+ million devices are generating. A reading of their earnings statement suggests any revenues are relatively minor.
  • Android has an install base of 560 million devices. Last month, Google CEO Larry Page said “mobile” (not Android) had an annual run rate (from some unspecified time) of $8 billion. That’s revenues, not profits. If we delude ourselves into thinking that this is a legit number and all of it comes from Android, then Google is generating $14 per device per year. Not bad. Remember, though, that’s revenues, not profits. Apple is generating an estimated $300 – $500 on each new iPhone sold. Clearly, hardware is the better business.
  • Worse for Google, the money on software, services and content can only be realized where these are fully protected. Almost 90% of new smartphones sold in China use Android. These millions of devices, however, generate almost nothing for Google, Google Play, Google Maps, et al., due to China’s restrictions on Google and its services. I have to ask Larry Page: if Apple sells just 5 iPhones in China, say, or maybe 10, have they generated more profits in China than Google’s Android?
  • Amazon rival Netflix suggests that Amazon is losing close to a billion a year on its movie streaming service – which includes many free movies for Kindle customers. While Amazon will not verify this, we know Amazon’s profits are close to 0. Last quarter Amazon had a $28 million operating loss.

Why the persistent belief then that selling hardware at or below cost is the future? To date, it’s been a huge cost and with little end in sight. Both Google and Amazon continue to offer more and more free services to evermore demanding customers but the bottom line has not improved.

Exactly how much do Amazon and Google need to give away before Apple can no longer make a profit on hardware? Or is this a completely backwards notion of the reality of the market?  Show me the money! If software is eating the world, than the world is an empty, zero calorie meal.

Perhaps everyone got it wrong – except Apple and Steve Jobs: make awesome hardware and people will pay good money for it. Make hardware as an after-thought, as a means to sell us streaming movies, for example, or to present more ads to click, and people will pay far less, and may care far less.

Is it possible the software business, instead of forcing Apple to adopt a different business model, has instead diminished itself?

Google gives away Android and works with vendors to make its flagship Nexus devices available at almost no profit margin. Then they offer me free email, free voice search, lots of free apps, a free voice number (in the US), free videoconferencing and more. If the way to make money was on the software and services, than Google would be earning a fortune on Android. They are not! It’s a cost center.

Cost centers are simply not sustainable.

Businesses focus on those areas where they generate revenues (and profits). For Apple that is hardware. For Amazon and Google it’s elsewhere. Is it any wonder then that Kindles aren’t as good as iPads? Is anyone surprised that customer satisfaction is higher for iPhone than any competing Android device?

Right now, only Apple and Samsung, two great hardware companies, are making any decent money on smartphones. Amazon has a PE of 3,000. It’s market value is built on promise, not profits. Google can’t seem to do enough to maintain its profit margins or the value of its once-sacred click. No wonder the company purchased Motorola, no wonder they are building fiber-based broadband service, no wonder they are in talks to partner with Dish on a nationwide (US) 4G network, and seem to be doing everything they can to make money outside of hardware. Only, its not working. Hardware is hard and making great hardware is near impossible.

Why should we believe that this will change anytime soon? Why believe that selling hardware at cost, or at a loss, will kill Apple and allow its competitors to rise up? The evidence has shown this to be false.

The focus on generating profits through software and services, making hardware a cost to be brought down, is fundamentally wrong. Apple keeps printing money. Nearly all that money comes from hardware and nearly all of that hardware is less than 5 years old. If not for Adwords, damn near a 20th century product, Google would have next to nothing.

Is this the final revenge of Steve Jobs?

Let’s dig even deeper. Perhaps the very notion that hardware is a cost and software is where the money is, is dying because software itself is dying. Or, if not dying, being utterly deconstructed. Again, thanks in large part to Steve Jobs.

Consider the iPhone and the iPad, particularly their progression. The very notion of an OS and software is almost non-existent. These devices are now merely a “pane of glass”. Everything we need from them becomes available with a swipe of the finger or, in the case of Siri, a voice command. Software, like the OS, has receded into the background – where people are unaware of it and don’t want to pay for it. It’s a utility. The focus is on the hardware and the human interaction with the hardware.

Software programs have been thoroughly deconstructed thanks to the introduction of the iPhone and the app and app store. Typically, apps are low-cost, highly focused bits of code designed to satisfy very specific and very timely user needs. There is no need for a massive Microsoft Word, for example. Rather, a “notes” app linked with a chart app and an email app will suffice. Can anyone even conceive of offering a $200 “office” software suit anymore? Not in a world where I can get iWork suite – across Apple devices – for $30.

We don’t need software, just give us apps. We don’t want a program, we want a function. True, sometimes we may want to ‘mash up’ many functions and in that case we rely on many different (low cost, function-specific) apps. In this new world, where an ‘app’ offers a specific function and we rely upon a variety of apps for a variety of functions, perhaps what becomes far more important than ‘software’ is the platform. A platform built on second rate hardware, designed as a means to some other end, may simply no longer be viable anymore. At least, not in today’s world when a super-advanced, slick Apple product, the iPad Mini, for example, can be had for $329. Remember just a few years ago that there was essentially nothing from Apple you could buy for under $1,000?  Should anyone be surprised then that the whisper sales numbers for the new Windows 8 OS have been awful?  Or that Google is generating more clicks but individual clicks are worth less than ever before?

The days of cheap hardware and ‘making it up’ on the software and content may be over. The real money is in hardware, hardware that people are willing to pay good money for upfront. If so, then we have just witnessed the ultimate revenge of Steve Jobs.

This is Part II of  “Is Apple killing software biz” feature. Check here for Part I “Show me the money”.

Author: Brian S Hall

Brian S Hall writes about technology, immortality and food for ReadWrite, Techpinions, Unwired View and other publications. His thoughts on the 'smartphone wars' and how these are rapidly de-constructing markets, industries, business models and relationships around the world can be found on his personal site at www.brianshall.com.

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  • synthmeister

    Great article. Several thoughts:

    Apple has turned several “Conventional Wisdoms” upside down.

    1. Open always beats closed

    2. The money is gonna be in the software in the future.

    3. Content is KING.

    4. Since everyone relies on mostly the same components–RAM, CPUS, screens, SSDs, etc.– Apple won’t be able to continue to charge a premium for their products.

    5. Apple can’t possibly create any hardware devices which are competitively priced.

    6. Consumers want lots and lots and lots of hardware choices.

    7. Offering lots and lots and lots of hardware choices is a great way to reach all consumer segments.

    Looking at Google and MS, at least they have cash cows to fund their “sell-at-cost” expeditions into the mobile space. Amazon, however, is selling at-cost-devices, with loss leader services, selling other people’s wares at razor-thin margins and they have NO cash cows. That’s why their profit margins were at -1% last quarter.

  • http://www.amazon.com/-/e/B002VH8ECQ Brian S Hall

    Thanks. I had not realized just how many Apple product strategies so fully reverse conventional wisdom.

  • DroidDoesnt_2

    Brilliant….

  • synthmeister

    I almost forgot the BIG one from the 90s:
    If only Apple would separate their software business and sell off their lousy hardware business, then they would have a chance of surviving.

    Apple is actually not about selling hardware as much as it is about selling integrated hard/software. I don’t buy Apple hardware and wish I could run Windows or Android on it. I buy it because it all fits neatly into the Apple hardware-software ecosystem.
    Apple never had anything like the current ecosystem in the 80s – 90s with the Mac. That’s one of the huge reasons MS clobbered them on the desktop. MS had a massive ecosystem.

  • mjtomlin

    Steve Jobs genius was to create a device that got out of the way. It’s mostly a screen that presents icons of what YOU want it to do. Click on an icon and the device gets out of your way and allow to enjoy what it is you’re doing. This is the appeal of iOS and the hardware it runs on, which is also very well made; it uses only what’s required to make the OS run smoothly and that’s what is important to most people.

    I don’t think its about hardware or software or services alone … it’s about the product – the whole widget as Steve used to say. Apple makes exceptional products and people are willing to pay for it.

  • stefn

    Hope Apple buys Google before Samsung does.

  • enyibinakata

    More “Apple polishing” from Brian Hall, it seems Unwired has now stooped to the gutter of Apple fawners,I hope you get the highly desired clicks from Apple devotees

    http://www.thefreedictionary.com/apple-polishing

  • enyibinakata

    “Not in a world where I can get iWork suite – across Apple devices – for $30.”

    Sorry to burst your bubble, The “world” you imagine is hardly real. Microsoft Office (in particular Excel) remains the bedrock of Office productivity. Seriously, you’re so neck deep in Apple’s fabled Reality Distortion Field that I fear there is no hope for you.

    You would have more credibility if you had given credit to Open Source Software (Libre Office) or even Google apps instead as these are more of a challenge to Microsoft’s hegemony.

    There is more to Software biz than fart apps.

  • Chris

    Just because Office is called a “productivity suite” doesn’t mean its users automatically become so.

  • enyibinakata

    Love or hate, we cannot deny that MS Office is the standard productivity suite. I understand that most techies would rather see “Micro$oft” perish for its past iniquities but such desire should not preclude sound reasoning.

    Microsoft is as much a profit driven mega corp as is Apple and “do no evil” Google. Its silly to prefer one to the other as they are birds of a feather.

  • enyibinakata

    Amazon is playing a long term game and investors seem happy with it. Jeff Bezos is CEO of the year for a good reason, see http://management.fortune.cnn.com/2012/11/16/jeff-bezos-amazon/

  • http://www.staska.net Staska

    Mmm. Any arguments where you think this post is wrong? Instead of trolling with your crap here and on twitter? Like – examples of anyone, including Google, making good and sustainable profits from Android? (except Apple and Samsung) Or, except from Apple and Samsung – in mobile devices in general? Any examples of Microsoft’s success in mobile?

    Not just delusional hopes and corp speak/marketing/PR stuff toadying I see from most of those accusing us Apple fanboysm. Some real hard examples backed up by sales numbers?

  • http://www.staska.net Staska

    Remember IBM? Seemed invincible. Remember Nokia? Used to make billions in mobile too. Where are they now.

    The fact is – it’s been 5 years since iPhone came along. Ballmer laughed at it. Now, he isn’t laughing.

    And Surface? “Moderate sales” – after all MSFT bet on it? Windows 8 – damn. what a crap. And MSFT thinks they can push it down our throats? Well, I guess they can, for a while, in corp environment maybe. But overall – it’s heading for a worse reception than even Vista.

    Those billions – well, MSFT has been hangingon them for a decade. Huge lock in. They are lucky. Maybe they’ll figure it out eventually. But I wouldn’t bet on it

  • Slipstream

    Software may be dying, but it’s more Google’s doing than Apple’s. By giving away Android, e-mail, productivity suite, etc. etc., they have destroyed Microsoft’s business model.

  • http://www.amazon.com/-/e/B002VH8ECQ Brian S Hall

    I think there is much evidence to help support that. But, I believe that the ‘app’ as developed by Apple has spurred nearly a billion users in under 5 years to think of “software” as these highly specific, low-priced functions. The days of big software programs that do numerous tasks are over.

  • http://davidhdennis.com/ David H Dennis

    Nowadays, I think a lot of things that were printed documents now show up as emails, so you can use your email program instead of Word for 90% of the documents you need to make.

    I love Pages and Numbers – I use them for all my word processing/spreadsheet needs. They are clean, well designed and a lot better thought out than Word and Excel.

    That being said, I know you have to get things in Word or Excel format in the corporate IT world, but if you’re not there, Pages and Numbers are superior to the creaky Microsoft stuff.

    D

  • http://www.staska.net Staska

    Did you ever hear such term as “paradigm shift”. There was a time, from about 1996 to 2009 when most of us could not avoid Microsoft whatever we wanted. That laptop wa cheaper, MS Office was on it, my files, my songs, my music…

    I used to use MSFT without second thought. Work PC, laptop for light home work and enterntainment. Well, that second (laptop) part is gone except when I’m travelling for business to MWC. Otherwise tablet provides me with most of fun. But I can’t avoid MSFT in business

    So, MSFT may have a decade still milking it’s last century cash cows. Until those cows get barren. And it’s a bet on rather unfavorable terms MSFT will figure out some bmodel even close to the profits it generates today

  • synthmeister

    I simply don’t see a long term business plan in place, i.e. I don’t see when Amazon will actually start earning real money. Right now Amazon is trading with a P/E of around 250. Long term is one thing, waiting 250 years before Amazon can justify its stock price is simply ridiculous. Any bump in the road could seriously hamstring Amazon.

    Don’t get me wrong, I love to use Amazon as customer, but they resemble an excellent restaurant serving all this awesome, trendy food but they are paying too much for rent and supplies and giving away appetizers and free drinks every night. What’s not to like?!!! But at some point they have to find a product or service where they earn more than 1% margins.

  • Sudheer

    Do you know that why Windows became so popular and earned MS a lot and lot of money ?

    Because, MS gave its Windows OS at very cheap price and even encouraged distributing pirated copies, just to increase market share. Further, since it did not create hardware on its own, multiple OEMs entered and created hardware, giving several options to customers at several price points. During that time, MS earned very, very little. Once Windows became dominant OS, they increase OS price and since then they have been earning $7 billion a quarter from that. They can continue to earn this without if they dont take new development.

    The story will be same with Android. With hundreds of Android OEMs offering large range of choices, all possible price points, Apple will be confined to very small segment which will also vanish as it cannot stand against hundreds of Android OEMs.

  • Sudheer

    Author, do you know that why Windows became so popular and earned MS a lot and lot of money ?

    Because, MS gave its Windows OS at very cheap price and even encouraged distributing pirated copies, just to increase market share. Further, since it did not create hardware on its own, multiple OEMs entered and created hardware, giving several options to customers at several price points. During that time, MS earned very, very little. Once Windows became dominant OS, they increase OS price and since then they have been earning $7 billion a quarter from that. They can continue to earn this without if they dont take new development.

    The story will be same with Android. With hundreds of Android OEMs offering large range of choices, all possible price points, Apple will be confined to very small segment which will also vanish as it cannot stand against hundreds of Android OEMs.

  • Sudheer

    But how long people will to pay ? When a duplicate with similar specs comes out with dead cheap, then majority of those people shift to latter. Apple can’t continue to pricing too high.

    Consider, iPad and iPad Mini. Assume 100 people are interested to purchase iPad Mini which is priced at $329. When other reliable alternatives are available within $199, then most of those 100 people go to latter.

    So, basically, Apple slowly loses customers as new alternatives arrive at low price.

  • Sudheer

    If Google can produce desktop Linux ( say customized Ubuntu ), then Microsoft will be dead very soon.

    I don’t know why Google is not interested in desktop market. The effort is quite less as Ubuntu is stable. Google needs to make some simple cosmetic changes and release under its brand for a small fee.

    Microsoft is charging whopping $200 for desktop OS which is not worth. People buy just because we don’t have alternatives.

  • Sudheer

    Ballmer is crying at seeing Windows 8 and Windows Phone 8 sales ! They are very, very poor.

    MS keeps losing money in online and mobile divisions.

  • Walt French

    Just one point to add to your fine observations: Google treats its search revenues as a cash cow at its peril. The chart of Google profits — going down! for several quarters now — is a reminder that mobile is disrupting Google’s business, too.

    I won’t claim to understand Google’s strategy. Maybe they realize that desktop-based ad revenues are just a passing fad. (Their partisans certainly say similar things about Apple often enough; it seems in their consciousness.) Maybe they are already envisioning the next big thing and think that Google will be doing useful, valuable work for which they’ll be somehow compensated by their appreciative customers.

    But we very well may have seen Peak Ad, and Google has only a gaggle of experimental, pre-beta gadgets and services to replace their current business, which seems to be going nowhere.

  • synthmeister

    You’re missing two important factors:

    1. Microsoft always made nice margins on their software. They never had a time where they made “very, very little.”

    2. Microsoft always kept iron-clad control over the software–Android has spread far beyond anyone’s wildest imaginations but Google can’t profit from all the forked Chinese, Amazon and B&N versions..

  • http://twitter.com/qka qka

    synthmeister

    You’re off by an order of magnitude on the AMZN P/E. It’s at 2855 for the Thanksgiving holiday weekend.

    That’s even worse than you describe.

    http://finance.yahoo.com/q?s=AMZN

  • enyibinakata

    Ahh its the old retort of the Apple zealot, profit , profit, profit >>> market share. At least the sheep all go baaa in unison!!.

    You need to learn a bit about short vs long term business goals. What will it take for you people to realize that Apple is selling increasingly commoditized hardware at an unsustainable premium ?.

    Listen to Bezos, “your margin is my buisiness”. Watch margin compression squeeze Apple faster than a boa constrictor. Google is not giving Android away for free, its less than free, if you cant see the value of Android to Google then I cannot possibly help you. Check out Google’s latest earning call, 8 billion in revenue from mobile, 3 times bigger than year before. You asked for data ?, here http://www.businessinsider.com/googles-mobile-revenues-2012-10

  • synthmeister

    Ahh, it’s the old retort of the anti-Apple zealot, “You simply don’t understand our business plan.” Identical to the internet-bubble goons who kept claiming that you didn’t need to worry about profits with an internet startup.

    I’m not sure what “margin compression” is but Apple seems to have done fine with margin compression for the last 15 years. If anything, Amazon is the one with margin compression problems because they are already operating at 0% margins.

    As far as the $8 billion mobile revenue, Google needs to break down where that money is coming from, i.e. how much is coming from iOS, for example. And Google needs to break down how much of the $8 billion is profit.

  • synthmeister

    HA! I saw that figure somewhere else and couldn’t believe it. That P/E is sheer lunacy.

  • enyibinakata

    Its well known that Google’s profits was down due to acquisition costs associated with Motorola, this was always going to happen in the short term. 8 billion mobile revenue should not be ignored whatsoever, heck this makes Motorola sound cheap by comparison. Don’t forget that Apple will sooner or later have to pay Google for all those Motorola FRAND patents its been violating since day 1 of iPhone, iPad.

    Apple has been able to sustain its margins by, to its credit, reviving existing industries in the form of iPhone or creating new ones as in iPad. Is this sustainable ?.

    Unless Apple’s litigation strategy really takes off (and $1 billion from Samsung is a good start), I don’t see it maintaining its current growth rate. Not with iPhone 5 lagging behind Galaxy S3 in a key market like the UK and Android killing it in China. See http://www.uswitch.com/mobiles/mobile_tracker/

    You cant buy a Nexus 4 for love nor money but iPhone 5 is being discounted in tesco and refurbished models selling for half price. This is rightly so as Apple really sat on its laurels with iPhone 5. When was the last time you saw an iPhone get a price cut so soon after release or a refurbished model going for half price ?

    http://www.uswitch.com/mobiles/news/2012/11/iphone_5_price_cut_on_tesco_mobile_for_black_friday/

  • synthmeister

    The MOTO purchase was non-GAAP and is not included in Google’s regular GAAP revenue/expense which I was referring too.

    FRAND patents won’t change a thing. Apple has plenty of them as well with the Nortel purchase.

    Apple has been able to sustain margins by selling things with profit margins, but Google and Amazon are going to be awesome by selling things without profit margins?

    Let wait and see what iPhone sales/profits are like at the end of the quarter and then compare them with Galaxy III and Nexus 4. Oh wait, Samsung and Google don’t reveal unit sales and profits so we can’t do that.

    iPHone 5 is being made and sold as fast Apple can make and sell them. Shipping times are just now coming down to one week in a few countries.

    http://9to5mac.com/2012/11/26/apple-catching-iphone-5-demand-for-holidays-ship-times-start-dropping-to-just-1-week/

  • synthmeister

    From October 2011 through September 2012, the combined net profit of Microsoft, Google, eBay, Yahoo, Facebook and Amazon was $34.4 billion. Apple alone made $7 billion more.

    http://www.statista.com/topics/847/apple/chart/735/apple-s-astonishing-profit-in-context/

  • Time for a New Paradigm

    So what is your explanation for the fact that even despite the near-monopoly of Windows on the personal computer, Mac has been stealing market share slowly-but-steadily for 28 quarters in a row now? Seems to me if Mac can steal share when facing the monopolist in the PC arena, then it should certainly be able to hold its own with smartphones, and even more so in the tablet sphere, where it has an overwhelming dominance in tablet-specific apps.

    Time for a new paradigm?

  • jv

    You didn’t understand Marc Andressen’s quote about software eating the world. He didn’t say that software is where the big money is on now. He was saying software is growing to be everywhere, potentially changing all kinds of services, the whole world. Nothing to do with money.