The Tension Between Apple’s Customers and Shareholders
Apple has been a phenomenally successful company over the past 15 years, releasing three new product lines which revolutionized the markets they entered and drove enormous growth and profits for the company. Shareholders have benefited enormously too, as revenues and share price have risen largely in tandem over that period:
During the period from 2000-2012, Apple pleased two constituencies equally well: shareholders and customers. Producing compelling products pleased the customers who bought them in huge numbers and the growth those customers drove pleased shareholders too. Especially as Apple introduced the iPhone, growth exploded, profits increased even faster, and shareholders made out like bandits.
But over the last two years we’ve seen a de-coupling of the previously closely aligned interests of customers and shareholders. As Apple’s biggest product line, the iPhone, has reached maturity and high penetration among its target customer base, growth has slowed. With the groundwork laid by the iPhone, the iPad has rocketed to high penetration rates much more quickly, leading to enormous early growth and a much more rapid slowing of growth than the iPhone. As a result, overall growth in both revenues and profits at Apple has slowed, even though both revenues and operating profits remain significantly higher than those at the other three big consumer tech companies – Microsoft, Google and Amazon.
At the same time, consumers remain very happy with Apple’s products, buying tens of millions of iPhones and iPads and millions of Macs and iPods each year. Customer satisfaction and loyalty rates remain very high. Apple achieves this in part by taking its time with product development, releasing products in new categories only when they can deliver them well, and often withholding what others would consider key features until they can be delivered right or perhaps never. Consider the original iPhone. No 3G, Flash support, multitasking or copy/paste. All but Flash were eventually added, but only when Apple felt adding them didn’t require too much compromise. Of course, Flash famously never was. Or consider the iPad, the concept for which Apple developed before the iPhone but postponed until three years later because it felt the underlying technology wasn’t ready. Though observers have criticized Apple for making these moves, customers don’t seem to have minded and so investors have still been happy.
Apple has therefore always been, to an unusual degree, a company motivated first and foremost by creating great products rather than driving shareholder returns. But it’s also understood the former should generally also produce the latter, even though the reverse is seldom true. But as growth has slowed, and the stock price has followed, Apple is faced with a critical decision: whether to start doing things that will make sense financially in the short term even if they’re not what’s best for its customers and for Apple’s long term success. So far, Apple has dealt with this situation exclusively through financial mechanics, with stock buy-backs, dividends and now a stock split. These actions have boosted the share price even in the absence of massive growth, major new product categories or other drivers in the core business. But unless it keeps increasing the size of buybacks and dividends, there’s only so much Apple can do to appease shareholders hungry for the kind of exceptional growth the iPhone drove.
The temptation at this point will be to start to erode the overarching commitment to great products in the interests of driving short term growth. For example, to put a wearable device out into the market at a time when those on offer are all fundamentally flawed, pointing to limitations in the underlying technology. Or to introduce a cheaper iPhone for emerging markets because that’s where all the growth is. To be clear, neither of these moves – introducing a wearable or a cheaper device for emerging markets – would be a strategic mistake by itself. But the temptation in both cases would be to produce a sub-par product in these categories out of a sense of urgency driven by shareholders not customers.
I see no indication this kind of shift in thinking is imminent. Tim Cook has shown a willingness to stand up to shareholders such as Carl Icahn and the NCPPR, which suggests he’s not going to be a pushover on this front. But I think much of the response to the reports Apple might acquire Beats seem to stem from a sense Apple might be about to succumb to that temptation, by buying growth at the expense of selling an inferior product. They are just reports at this point and we don’t know whether the deal will be done, let alone whether Beats headphones will be sold as Apple products. But I think it’s that fear that has so many people worried about what a Beats deal might signify.
The reality, of course, is if Apple did release an inferior product, or worse still several of them, it would be an enormous strategic blunder. Apple products command such a premium precisely because their standards are so high, and any lowering of standards due to short term financial expediency would be terrifically damaging long term. The fact is the tension here isn’t actually so much between Apple’s customers and its shareholders as a whole – it’s between those interested in Apple’s long term prospects and those interested in short term financial performance.
Apple’s challenge over the coming months is to demonstrate what it’s doing to secure the long term performance of the company. That will start with WWDC in a couple of weeks and continue with the new product categories launched there and/or later in the year. If Apple gets it right, the interests of shareholders and consumers should be brought back into balance, resolving the tension. If it doesn’t, the tension will just continue to increase and with it, the temptation to do something Apple shouldn’t.