Apple Shouldn’t Cross That Road Till They Come To It

on April 24, 2016
Reading Time: 9 minutes

Part 1: Argument

On April 19, 2016, Ben Thompson of Stretechery wrote: Apple’s Organizational Crossroads. If you haven’t read it already, I highly recommend you read it now. In a nutshell, Ben Thompson’s contention is:

1) Apple employs a (rarely used) functional organizational structure; ((“(T)he very structure of Apple the organization — the way all those workers align to create those products that drive those exceptional results — is distinct from nearly all its large company peers.” ~ Ben Thompson))

2) This organizational structure has served Apple well;

3) However, Apple is moving toward Services;

4) To do both iPhones and Services well, Apple needs to move from a functional organization to a divisional organization; and

5) Ben Thompson is not sure if Apple can successfully make the transition.

It’s very difficult for a publicly traded company to switch,” Bezos said. “So, if you’ve been holding a rock concert, and you want to hold a ballet, that transition is going to be difficult. ~ Jeff Bezos

This is a very rudimentary outline of Ben Thompson’s position. Again, READ THE ORIGINAL ARTICLE.

Divisional Organization

Most companies, especially large companies, work off a divisional structure. If Apple were divisional, they would have divisions for the iPhone, iPad, Apple Watch, iPod, etc.

Divisional organization has many advantages — which is why almost every company, save Apple, uses it. However, one of its disadvantages is difficulty in letting go of the old and transitioning to the new. Why? Because each division is a self-contained fiefdom and division mangers — and those in their charge — are highly incentivized to protect their fiefdom’s interests, even if it means putting their company’s overall interests at risk.

[Of course, no one consciously tries to harm their own company but, as Upton Sinclair said, “It is difficult to get a man to understand something when his salary depends upon his not understanding it.”]

Most discussions of decision making assume that only senior executives make decisions or that only senior executives’ decisions matter. This is a dangerous mistake. ~ Peter Drucker

Microsoft, for example, had Windows which was a cash cow that rightfully dominated the company for ~30 years. However, the Windows division was so large and so powerful that it became the end rather than the means. In other words, the company existed to support Windows rather than the other way around.

The worst enemy of major consumer electronics companies is not suddenly weakening sales, which sometimes shake firms out of their stupor. It’s that last, big, almost obsolete blockbuster that gives executives a reason to avoid change. ~ Tero Kuittinen

Any internal efforts to replace or displace Windows were quickly squashed. Microsoft worked very, very hard to diversify in the 2000s, but everything had to be made compatible with Windows. And so, a series of ambitious experiments with televisions, gaming, computing in living rooms, tablets, phones, etc. all had their reach constricted because they were tethered to Windows. They had no chance of becoming the next big thing because they were tasked with supporting the current big thing.

The worst place to develop a new business model is from within your existing business model. ~ Clayton Christensen on Twitter

Idle observation: Apple is basically working though failed Microsoft products from 15 years ago and doing them right. ~ @BenedictEvans

Functional Organization

Apple, on the other hand, is famous for taking an approach that is the polar opposite to Microsoft’s. Instead of protecting their money makers from internal competition, Apple is a serial cannibalizer of their own products.

The Macintosh devoured the Apple II, the iPhone consumed the iPod. The iPad even competed with the MacBook and the recent MacBooks have returned the favor.

If you don’t cannibalize yourself, someone else will. ~ Steve Jobs

If anybody is going to cannibalize us, I want it to be us. I don’t want it to be a competitor. ~ Steve Jobs

Apple’s more expensive, higher-margin device continues to cannibalize the cheaper, lower-margin one. ~ Benedict Evans on Twitter

Can’t accuse Apple of not cannibalizing itself. Strongest competitors to the iPad are the iPhone 6+ and the new Macbook. ~ Benedict Evans on Twitter

How does Apple manage to transition from money-maker to money-maker so (seemingly) seamlessly? They are set up with a functional, rather than a divisional, structure. Those functions consist of marketing, engineering, finance, etc.

Whereas divisions are incentivized to compete with one another and disincentivized to cooperate with one another, a functional organization has no incentive to compete (or actively sabotage) the efforts of others and every incentive to coordinate their efforts within the company. Engineers within Apple can work on the iPhone or the iPad or the Apple Watch and know that they are helping the company as a whole.

However, being a functional organization is no panacea either (else everyone would do it). The very strength of a functional organization is also its weakness. While it’s true that the employees of a functional organization aren’t incentivized to compete with other parts of the organization, they are also not incentivized to compete at all, i.e, there are few external incentives to motivate employees to benefit the corporation as a whole. How do you motivate employees who are not directly benefitting from a product’s success?

Call it what you will, incentives are what get people to work harder. ~ Nikita Khruschev ((Excerpt From: Steven D. Price. “1001 Smartest Things Ever Said.” iBooks.))

Further, functional organizations lack accountability. When a division fouls up, you know who to blame. When the iPhone fouls up, who exactly do you blame? Who do you hold accountable? Marketing? Engineering? Finance? They may all bear part of the responsibility, but none of them bear all of the responsibility.

Dysfunctional Services

Ben Thompson persuasively argues that:

1) Apple is bad at Services. For example, all of the following services could be much better than they are.

— App Store search
— Apple Music
— Cloud Services
— Apple Pay
— iMessage
— Siri

2) Apple is moving towards being a Services company;

3) The functional organization that makes it possible for Apple to create superior hardware is the same organizational structure that makes it impossible for Apple to create superior services.

I will not repeat Ben Thompson’s arguments in support of this thesis because 1) He makes them so much better than I can; and 2) for the third time, you should READ THE ORIGINAL ARTICLE.

Never, ever, think about something else when you should be thinking about the power of incentives. ~ Charlie Munger

Ben Thompson’s entire article is a great but, in my opinion, his spot on explanation of why Apple’s services can never hope to match their hardware prowess under Apple’s current organizational structure is the crème de la crème. Truly outstanding analysis. (Have I mentioned that you should really read the his original article?)

Your current business model limits your strategic options because that’s what business models do. ~ Saul Kaplan (@skap5)

Part 2: Rebuttal

DuPont Analogy

Ben Thompson points to DuPont as having been in an analogous situation to the one Apple is in now. DuPont made gunpowder. They decided to diversify into paint because the processes for creating gunpowder and paint were surprisingly similar. However, upon entering the paint business, DuPont discovered that the very business model that made the sale of gunpowder so successful was also the very business model that made the sale of paint so unsuccessful. In other words, the processes for making gunpowder and paint were similar but the business models for successfully promoting them were were dissimilar. So what to do?

DuPont solved the problem by breaking the company into two different divisions, with two different business models, tailored to create and promote two different products. Ben Thompson argues that the iPhone is DuPont’s gunpowder, Services are DuPont’s paint and Apple — like DuPont before it — needs to break these two very distinct business products into two very distinct business divisions.

The problem for Apple is that while iPhones may be gunpowder — the growth was certainly explosive! — services are paint. And, just as Dupont learned that having a similar manufacturing process did not lead to similar business model, the evidence is quite clear in my mind that having iPhone customers does not mean Apple is necessarily well-equipped to offer those customers compelling services. At least not yet. ~ Ben Thompson

I’m not convinced that DuPont is analogous to Apple. DuPont added paint to its gunpowder lineup because it wanted to diversify. But Apple doesn’t diversify. They cannibalize.

— When Apple created the Macintosh, they weren’t diversifying from the Apple II.

— When Apple created the iPhone, they weren’t diversifying from the iPod.

— When Apple creates whatever-the-heck-they-create-after-the-iPhone, they won’t be diversifying from the iPhone.

The Macintosh and the iPhone weren’t diversifying products, they were SUCCESSOR products.

Solution Or Strategy Tax?

Ben Thompson proposes the following solution to Apple’s services problem:

The solution to all these problems — and the key to Apple actually delivering on its services vision — is to start with the question of accountability and work backwards: Apple’s services need to be separated from the devices that are core to the company, and the managers of those services need to be held accountable via dollars and cents.

It’s true that if you broke Apple into an iPhone division and a Services division, each division would be incentivized to follow the path that best served their respective purposes. But it’s also true that neither division would be incentivized to work with each other or for the company as a whole.

Currently, Apple’s Services exist to serve the iPhone. Services may be huge, they may make gobs of money, but they exist not to be huge and not to make gobs of money but to support the iPhone. This would not be the case if Services were broken into a separate division.

A separate Services division would inevitably compete AGAINST THE INTERESTS of the iPhone instead of supporting it. Why? Because that’s what divisions do. Unlike DuPont — whose two different product lines could both simultaneously strive for success without competing against one another — the iPhone and Apple’s Services are inextricably intertwined.

Further, if Apple used divisions — just like everyone else — Apple would become — just like everyone else. Apple would lose one of the attributes that makes it unique and uniquely successful.

My Frustrating Conclusion

Ben Thompson is right to say that Apple’s hardware focused business model makes it impossible for Apple to excel at Services. In other words, Apple’s services will always be “meh” because Apple’s business model is tailored to create hardware on a periodic timetable and services require one to focus on, and build up expertise in, an entirely different set of iterative processes. However, I think the proposed solution — breaking the iPhone and Services into seperate divisions — is a cure that would be worse than the disease. Breaking Apple into two divisions would not create one excellent hardware division and one excellent Services division — it would, instead, create one conflicted and dysfunctional company.

As frustrating as this may be, I think Apple should continue to be so-so at Services so that it may continue to be so, so great at hardware.

Part 3: Counterargument

Self-Disruption vs. Self-Cannibilazation

Industry observers ((Not Ben Thompson. I’m speaking in generalities.)) often say Apple disrupts itself.

It doesn’t.

Disruption is not about products, it’s about business models.

Products don’t get disrupted, businesses (and people) do. ~ Horace Dediu (@asymco) 12/6/14

Disruption is about business models, not technology. ~ Ben Thompson (@monkbent)

Incumbents are rarely disrupted by new technologies they can’t catch up to, but instead by new business models they can’t match. ~ Aaron Levie (@levie)

Apple doesn’t disrupt itself — that would require a new business model and Apple’s business model has remained constant throughout its 40 years of existence. Apple cannibalizes itself and obsoletes others.

— The Macintosh did not compete with the Tandy Radio Shack TRS-80, The Commodore PET, Atari, Texas Instruments TI 99/4, IBM PC, Osborne, Franklin or even the Apple II.

— The iPod/iTunes combination did not compete with existing MP3 players.

— The iPhone did not compete with feature phones.

You don’t obsolete a product by making a slightly better, or even a much better, product. You obsolete a product by making it easier to do what that product does without having to use that product. You obsolete a product by creating a wholly new category in which the old product can’t compete.

[pullquote]Apple creates new categories[/pullquote]

The Macintosh, the iPod and the iPhone weren’t better versions of existing products. They weren’t incremental improvements. They were paradigm shifts.

When a paradigm shifts, everyone goes back to zero. ~ Joel Barker

Apple doesn’t outrace their competition. They start an entirely new race and then get such a big initial lead that no one else can catch up.

Apple doesn’t create new products. They create new product categories.

Milking The iPhone

Apple does not seek to move from gunpowder to gunpowder and paint — from iPhone to iPhone and Services. They do not seek diversification. They seek succession. They seek to move from gunpowder (iPhone) to the next explosive product category. And Services are most definitely NOT the next big thing.

If I were running Apple, I would milk the Macintosh for all it’s worth and get busy on the next great thing. ~ Steve Jobs [Observation made when running NeXT]

If I were running Apple, I would milk the iPhone for all it’s worth and get busy on the next great thing. And that’s exactly what I think Apple is doing.

Apple shouldn’t divert resources toward services. It’s the other way around. Services should be directed toward supporting the iPhone — even if that means that Services will never reach their full potential.

But perhaps you’re asking, “Why should the iPhone be prioritized over Services?” Why? Because, as I wrote two weeks ago, the iPhone dominates smartphones and smartphones are the most dominate tech product of our time.

Ever think about an old friend and wonder what they’re doing right now? They’re playing on their phone. Everyone is playing on their phone. ~ Jazmasta on Twitter

Conclusion

Remember, I’m not saying Apple won’t create a Services division. I have zero knowledge of what Apple is going to do. And Ben Thompson makes a pretty compelling case for why Apple should move in that direction. But I don’t think Ben Thompson is actually arguing that it would be great if Apple created a new services division. I think he’s arguing that Apple should create a new services division if they want Services to be great. Ben Thompson is doing what good analysts do. He’s not giving us the right answer. He’s asking us the right question.

The value of analysis lies less in answering questions than it does in questioning answers.

Frankly, if Apple created a Services division, I would fear for Apple. I don’t think creating a Services division would be a sign that Apple was acknowledging the path they were already on. I think it would be a sign that they had strayed from the path and lost their way.

But I don’t think that’s going to happen. We’ve already been down this road with Apple Retail. John Browett — Apple’s fired head of Retail — wanted to make Apple Retail a bigger money maker.

John Browett seemingly made the mistake of seeing Apple Retail as something to optimise rather than cherish. Wrong. ~ Benedict Evans (@BenedictEvans) 4/21/16

John Browett didn’t understand that Apple’s goal is not to help make Apple Retail great. Rather, the goal is for Apple Retail to help make Apple great. The same holds true for Apple Services.

So many companies don’t know why they succeed. ~ Ben Thompson (@monkbent) 12/4/14

So very many companies don’t know why they succeeded. Apple always has. Ben Thompson says Apple is at a crossroads. And maybe they are. Me? I hope they stick to the straight and narrow.
images-163