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What Apple Stores Aren't Doing

By Alex Salkever When PC maker Gateway (GTW) announced on Apr. 1 that it planned to shutter its remaining 188 stores, Macheads were quick to gloat that Apple (AAPL), by contrast, is doing retail right. Gateway missed the mark by first opening too many stores with products that never strayed from the Wintel pack. And it overestimated the allure that its customized approach would hold for PC buyers. It was almost anticlimactic when Gateway's new CEO, Wayne Inouye, announced that he would close stores that hadn't made money in years.

Now look at Apple. Its flagship stores have sprinted from startup to solidly profitable in less than three years. It's expanding service offerings -- such as one-day repair turnarounds and consulting sessions with Apple's in store "geniuses" -- to better accommodate customer demand. And more and more, the Apple stores are playing a central revenue-generation role for Jobs & Co.

RETAIL JUMP. By the numbers, Apple stores are firing on all cylinders. In the first fiscal quarter of 2004, ended Dec. 27, 2003, Apple reported $273 million in sales from its retail operations, although that also includes sales of extended warranties that may not have been sold in the stores themselves.

Still, the number represents a full 13.6% of the $2 billion in total revenues Apple recorded that quarter. And it's an 84% hop in retail sales over the same period last year. More important, the stores generated an operating profit of $9 million. And that figure doesn't include the manufacturing profit Apple receives before it "sells" products to its own stores.

Small-business owners make up about 10% of Apple's retail customer base. That's a surprise, as the outfit has done virtually nothing to market to that group, and many small businesses have close ties to local, third-party Apple resellers.

ANNOYED RESELLERS All this is somewhat unexpected. Although always intended to be profitable eventually, Apple stores were envisioned mainly as showcases for Apple wares, aimed at drawing in new customers.

But here's perhaps the biggest surprise: On the crucial basis of attracting newbies, Apple's stores have yet to show any notable progress. Despite Jobs & Co.'s claims that 50% of the people buying at its stores are Windows users, Apple's market share has made no significant advances. So while comparisons to Gateway might seem easy and feel good, they only go so far.

Another unintended consequence to consider: As Apple opens more and more stores in high-demographic areas, resellers are up in arms. At least five have grown so incensed with what they perceive to be Apple's unfair and potentially illegal business practices that they have filed various suits seeking damages. And Apple's recent moves to add more services to its stores will likely result in even more of these largely mom-and-pop shops flocking to the exits.

SMALLER PIECE. Ultimately, Apple stores could successfully become the primary Mac service point and cultural hub for aficionados. Apple already exerts much more control over its marketing message at the grass-roots level.

Still, the proof is in the number of new Apple users, and that remains discouraging. In tech tracker International Data Corp.'s latest tally of computer market share, Apple's piece of the U.S computer pie slid from 3.5% in 2002 to 3.2% in 2003. The decline also speaks volumes about Apple's campaign to woo switchers -- if they were coming over in any significant numbers, then Apple would be growing faster than the broad PC market.

Clearly that's not happening. Sure, IDC numbers are imperfect measures. A huge chunk of PC purchases come from big companies, and Apple doesn't compete in that market at all. Still, it has to show some improvement in market share to convince Wall Street it has long-term legs.

JURY IS OUT. And while the rapid sales of iPod digital-music players is a wonderful bonus, Apple makes probably twice as much profit from each PowerMac G5 sold. What's more, Dell (DELL) just cut the price of its own hard-drive-based digital player well below Apple's. So the price wars for the gadget may already be starting and could erode iPod's profits -- perhaps sooner than outsiders might think right now.

For Apple's retail experiment to be judged a true success, it would need to see some positive momentum in actual Mac market share from reputable sources, such as IDC. Absent these third-party judgments, Apple's own claims about switchers lack credibility.

Do the retail stores hurt Apple? At this point, probably not. And they've certainly helped it to more effectively market its products. The stores have hurt resellers, but these shops presided over declining market share for many years. One can understand Apple's impatience.

All other things being equal, though, until Apple can start posting rising market-share numbers, the final jury on the great retail experiment remains out. Salkever is Technology editor for BusinessWeek Online. Follow his Byte of the Apple column, only on BW Online

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