Technology

More Apple Miracles in 2006?


It won't be easy for Steve Jobs & Co. to meet investors' lofty expectations as the company moves into uncharted products and possibly new markets

In a world filled with uncertainties, from Iraq to interest rates, you can count on at least one thing: Growth at Apple Computer (AAPL) will remain on a tear in 2006. Sales of iPods are showing no signs of slowdown, and Jobs & Co. appears well poised to keep gaining share in the vast personal computer market with its resurgent Mac product line.

But one big question surrounds the Cupertino (Calif.) computer maker. Having set the bar well into the stratosphere with its 2005 performance, can Apple produce results impressive enough to satisfy an investor community that has come to expect near-miracles?

HOME IMPROVEMENT.

We'll know a lot more come Jan. 10, when Apple CEO Steve Jobs takes the stage for the annual Macworld confab in San Francisco. He's expected to announce his usual slew of goodies for the Mac faithful. According to Mac rumor sites, the company will unveil the first Macs based on Intel (INTC) microprocessors. There's also talk of a new version of the low-end iPod shuffle.

Perhaps most interesting is the scuttlebutt that Apple will introduce an upgraded version of the Mac mini designed to serve as a media centerpiece for the living room. Equipped with Apple's entertainment-friendly Front Row software, customers would be able to tap into music, videos, or the increasing portfolio of TV shows available on the iTunes Music Store via a remote control.

Or they would be able to call up their own digital pics or home movies. Indeed, some analysts are keeping their eyes open for even bigger surprises -- maybe a Mac-compliant big-screen TV or an Apple-branded iPod/cell phone hybrid.

HIGH HOPES.

Surprises or no, Apple and its buzz-generating lineup were certainly a hit with investors in 2005. The stock more than doubled last year, closing on Jan. 6 at $76.13. Trouble is, Wall Street continues to expect more.

First Albany analyst Joel Wagonfeld is looking for Apple's sales to grow 33.8% in fiscal 2006, which ends next September, to $18.6 billion. That's down from 68.3% growth in 2005 but still means Apple has to find nearly $5 billion in incremental revenue. That's almost as much as its total sales in 1998.

Jobs has positioned Apple so it has many routes to take. He's certain to continue milking the iPod franchise by creating products to woo new customers and give existing fans reason to upgrade. He did that in 2005 with the shuffle, nano, and video-capable iPod. The move to Intel should boost Mac sales, given faster notebook PC chips and, possibly, marketing help from the processor giant.

OUTSIDE THE BOX.

And there's always the chance -- albeit highly unlikely -- that Jobs will try to expand Apple's footprint by licensing the Macintosh operating system and additional technologies to other hardware makers. Jobs has always chosen to stick with a more closed approach to ensure that Apple's products work glitch-free. But the move to Intel chips makes the licensing option far easier than it would have been in the past.

The question is: Where is Apple going to find that $5 billion in extra sales, and will it need to plumb uncharted waters to find them? David Yoffie of the Harvard Business School thinks Apple will be able to keep hitting ambitious growth targets without straying too far from its current strategy. The stock trades at about 50 times per-share earnings, he notes.

"It means they have to grow revenues at very high rates for many years for their stock price to just be sustained, much less grow," Yoffie says. Still, he bases optimism on expectations that Apple will sell 35 million to 40 million MP3 players this year and on market projections that the MP3 market should grow to 150 million to 200 million units over the next five years.

"If they can maintain anything close to their current market share, they can maintain extraordinary growth for the next two to three years without having to broaden into new markets," says Yoffie.

NEW DIRECTIONS.

Still, signs abound that a broader, bolder product lineup is coming down the pike. Many believe Apple plans its own branded phone. A possible piece of evidence: It has bought rights to the domain name iPhone.org.

Then there's that enticing opportunity to burrow deeper into customers' living rooms. While the iPod has already essentially replaced the home stereo for millions of mostly younger consumers, Apple clearly has the brand, technology, and design expertise to develop, if not excel at, video-related products.

Theoretically speaking, at least, many experts believe Apple will be able to keep pleasing investors even as it covers new ground. Tech consultant Geoff Moore, author of Dealing With Darwin: How Great Companies Innovate at Every Phase of Their Evolution, says Apple is well positioned to ride a mega-trend that will play out over the next decade: the consumerization of yesterday's technology-focused digital markets.

ONE-MAN BAND?

Since Jobs returned to Apple in 1997, "he has essentially changed Apple from a company that made innovative technology products into one that makes consumer-electronics platforms," Moore says. Having executed this strategy brilliantly with portable music players, Apple will have the opportunity to run the same play in the living room, the car, and possibly in schools, he says. "As the sector formerly known as tech becomes consumer-driven, that's Apple's play. [Jobs] doesn't have to create markets. He has to consumerize them."

That doesn't mean it will be easy. Unlike companies such as Hewlett-Packard (HPQ), IBM (IBM), Microsoft (MSFT), and Cisco (CSCO), which have broad product lines, Jobs's Apple is notable for a disciplined focus on a few major initiatives at a time. That has enabled it to come out almost routinely with the most elegant, easy-to-use, and reliable products -- in large part thanks to Jobs's own close oversight. But how many balls can Apple keep in the air while maintaining the top-notch consumer experience its customers have come to expect?

"If I were on Apple's board, that's the question that would keep me up," says Moore. Like many others, he wonders whether Jobs has developed a management team with the bench strength to tackle many markets at once (see BW Online, 10/15/05, "Atop the Apple Tree, Almost").

Much of Apple's success comes from Jobs's own gut instincts on everything from product design to advertising slogans. "That model doesn't scale," notes Moore. "So as an investment, Apple is a risk not because it will run out of new worlds to conquer, but because it may run out of occupying armies."

RISING CHORUS.

Other long-term risks lurk. Apple is currently benefiting from a big list of hit products, but that could change. In particular, some pundits question its go-it-alone approach to digital music.

"In the early stage of an industry, when the functionality and reliability of products are not yet adequate, a proprietary solution is almost the right solution," says Harvard Business School professor Clayton Christensen, author of The Innovator's Dilemma. "But as the technology matures, industry standards take over. Nobody has beaten this yet."

Indeed, Apple is already dealing with a rising chorus of complaints from its music-industry partners. While Jobs & Co. believe the best means of combating music piracy is to stick to the 99-cent-per-song formula of the iTunes download store, music execs are demanding the right to sell songs at different prices, and in new ways, such as all-you-can-play monthly subscriptions (see BW, 12/19/05,"Apple May Be Holding Back the Music Biz").

LOSING LABELS?

Indeed, sources say Apple needs to sign renewed contracts with all the major music labels during the first quarter. "The feeling is, 'It's our music, and we'll price it, thank you. And we'll tell people how they can use it, not you,'" says one industry lawyer, who insists some labels might even be willing to forgo sales via iTunes if Apple won't budge. "Right now, digital downloads account for maybe 5% of the market. My opinion is that [some labels] may be willing to give up 5% of sales for a limited time to make a long-term statement."

Adds David Pakman, CEO of iTunes rival eMusic: "I don't know how successful iTunes is if it's missing half the majors. But Steve Jobs doesn't like to have anyone push him around. I'm anxious to see how this plays out."

And so are the many Apple investors who will set their expectations accordingly.


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