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Tougher Days, Bolder Apple


Over the past few years, hosannas have been deservedly heaped on Apple Computer (AAPL) Inc. CEO Steven P. Jobs for crafting a new Golden Age at the Cupertino (Calif.) company. A string of fresh products, particularly the iconic iPod, have put Apple back on the map and generated stellar returns. Since the first iPod was introduced, in late 2001, Apple has grown 148%, from $5.7 billion in revenues to a projected $13.4 billion in the fiscal year ending Sept. 30. All that has sent Apple's shares up 305% over the same period.

Now life is about to get a whole lot more complicated for Jobs & Co. For starters, Apple has decided to move from the PowerPC chips made by IBM (IBM) and Freescale Semiconductor Inc. (FSL) that have powered its computers for a decade to the Intel Corp. (INTC) microprocessors found in most other PCs. That transition alone, announced in San Francisco on June 6, presents a massive challenge -- and it's not the only one. The shift comes just as sales growth for both Macs and iPods is poised to slow, raising pressure for Apple to come up with its next consumer hit. "You can't argue with Apple's ability to execute," says Goldman, Sachs & Co. (GS) analyst David Bailey. "But there are a lot of moving pieces. That introduces risk."

Apple can't sustain the blistering pace of recent years, say analysts. While Citigroup Smith Barney expects Apple to rack up sales growth of 63% this year, growth will fall to 13% for fiscal 2006. The biggest reason is the iPod. While Apple dominates digital music players, with a 76% share, the iPod probably won't be the revenue machine it has been. Partly that's because shoppers increasingly are opting for cheaper models such as the $99 iPod shuffle. But the market is simply maturing as well. Sales growth is expected to go from 234% this year to 18% in fiscal 2006 -- still far better than its rivals, but a big comedown.

STRONG SPURT

Then there's the Mac. Jobs has chosen to launch the migration to Intel as the Mac is enjoying its best growth spurt in years. Mac sales are expected to soar 26% this year thanks to the combination of the iPod's "halo effect" and a rebound from a weak 2004, when chip delays depressed sales. Next year will be less torrid. While Apple may still gain some share, analysts are betting that Mac sales growth will be about 6%, close to the overall PC market.

And that doesn't account for Mac buyers who will sit on the sidelines till new Intel-powered models appear next summer. Of course, diehard Macolytes will keep buying in the interim. Mac user Silvano Colombano, a robotics scientist at NASA, says: "If I needed a new Mac, I'd buy one. When it comes to technology, you can always wait and get something better -- but then you'd wait forever." Still the risk remains. That's why Smith Barney on June 7 trimmed its revenue estimates for fiscal 2005 by $200 million, to $13.6 billion.

The move to Intel holds other challenges, too. Until now, Apple has announced products on Jobs's timetable -- when they met his stringent demands. With Intel defining the hardware guts, he'll have less flexibility. "Apple faces the risk of becoming [just] another player coming out with new products at the same time as everyone else," says Forrester Research (FORR) Inc. analyst Simon Yates.

Still, hooking up with Intel is worth the risk. So long as Apple is growing, software developers are likely to adapt their programs to run on the "MacIntels." And in the long term, Macs with Intel inside could spark growth. For starters, it could help close a speed gap in the fast-growing laptop market. Currently, Apple's top-of-the-line PowerBook runs at just 1.67 gigahertz, compared with 2.21 GHz Wintel models. That's critical, given Apple's reliance on laptop sales -- it gets 43% of revenues from such models, vs. 29% for the industry as a whole. And while few analysts expect Apple to make serious inroads into the corporate market, over the long haul it could eke out some gains -- especially if Apple one day agrees to load Windows alongside its OS, something Jobs says it has no plans to allow.

What's more, Intel could provide Apple with a technology tool kit to create a greater variety of trailblazing consumer products. One possibility: a device for playing music and home movies -- like the MediaCenter PCs championed by Microsoft Corp., but with Apple's trademark elegance and ease of use. "We've got some things we want to do in the next few years that make this the right time to [move to Intel]," says Jobs.

Certainly, Apple will need to take some smaller steps in the near term to keep the momentum going while it waits for the new line of MacIntels. One possibility is a higher-capacity iPod shuffle, or one with a screen. And most analysts expect that the company will unveil an iPod capable of playing video in the coming months. While Jobs has long scorned the idea that people would want to watch movies on a tiny screen, analysts say he has little choice but to offer this capability -- if only to prevent rivals such as Sony Corp. and Creative Labs from eating into Apple's iPod market share. Indeed, Apple recently began selling music videos on its iTunes music store. While Apple doesn't tell even its close suppliers exactly what its new products will be, one supplier executive says its parts orders for later this year are "fairly robust -- not the meteoric rates of [late], but pretty aggressive."

But new iterations of the iPod can take the company only so far, and it's hard to see how Apple can avoid slowing down from its recent red-hot streak. The company is already preparing investors for less rarefied growth. During last quarter's conference call, Chief Financial Officer Peter Oppenheimer said the goal was to grow at least 15% a quarter. That's fine by most standards -- but clear evidence that Apple's Golden Age may lose some of its sheen.

By Peter Burrows in San Francisco, with bureau reports


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