Monday, April 09, 2007

Early Indications March-April 2007: Can Lightning Strike Twice?

The Apple iPhone announcement has created an extraordinary degree of
market speculation and interest. Can Steve Jobs, who in many respects IS
Apple, duplicate the success of the iPod in a new but adjacent market?
In the end, no matter how many commentators expound at whatever length,
nobody really knows what will happen. Taking two extreme scenarios as
endpoints on a continuum of potential outcomes, here are some arguments
why things might unfold as they will.

If the iPhone fails to duplicate the success of the iPod, it will likely
be because:

-The price point is too high: $499 (which AT&T/Cingular is not allowed
to discount) yields an estimated 50% margin, according to iSupply, which
does market research. That profitability, however, could allow Apple to
cut the price after the early adopters pay a premium, and economies of
scale drop the cost of the inputs. Even so, knock-offs will enter the
market faster than they did after the iPod launch.

-The form factor proves cumbersome. Other tablet-like devices with rich
visual interfaces have failed to translate well as handsets put up to
the ear: the Blackberry is great from the thumbs' point of view but less
attractive to mouth and ears. Looking at global markets, many young SMS
users can text blindfolded but the iPhone's smooth screen doesn't allow
this kind of typing.

-The Swiss Army knife factor: all-in-one devices reduce footprint, but
few chefs rely on a red pocket knife to slice cheese, bone meat, or dice
carrots. And who's ever used the saw for anything? The point here is
that the iPhone's range of capabilities might make it marginally
acceptable for anything but less than appealing for specialized tasks
that a Blackberry, conventional handset, or iPod will perform better.

-Functionality is poor. If battery life, or overall durability, or voice
quality, or data security fall short, word of mouth can turn negative in
a hurry. Recall that some iPods had issues with screens that scratched
easily, Sony has had significant battery problems, and smartphones such
as the Sidekick fared poorly at voice transmission. Given the device's
complexity (involving accelerometers and proximity sensors) and
expansive screen real estate in a demanding context (purses and
pockets), keeping large numbers of iPhones in real-world service could
be challenging.

-Apple has to rely on partners. The retail channels for the iPod are
countless. iTunes runs on both Mac and PC operating systems. Most
significantly, the major music labels signed over access to most of
their catalog. This time around, Apple will rise or fall with AT&T
Wireless, which will have far more to do with the experience of iPhone
ownership than any iPod partner did. AT&T, Cingular, and BellSouth, at
the time of their merger earlier this year, employed over 300,000 people
among them. If the wireless business is only a fifth of that headcount,
that's still a 50,000+ person business with which Apple needs to
coordinate technology, customer service, marketing message, and
performance incentives.

-Apple is launching into a mature market with powerful incumbents, high
capital intensity, and well-defined roles. In contrast to the music
market in 2002, which was characterized by tumbling share prices at the
labels, distribution of the capital base (recording studios and pressing
plants) to millions of PC owners, and few mega-selling titles, the
wireless industry has consolidated to a small number of global network
operators, equipment manufacturers, and handset firms. The barrier to
entry remains high, and although Wimax could alter the landscape
eventually, the sort of bottom-up revolution represented by the original
Napster, or even Skype on the wireline side of telecom, is unlikely to
affect mobile providers. The scale of wireless is almost unfathomable:
Apple has sold about 100 million iPods in five years, which is a huge
number in the PC industry. In Q4 of 2006, Nokia all by itself sold 102
million handsets.

-The demographics fail to align: the people most comfortable with
constant connectivity and multifunction devices --15-to-30-year-olds --
may be the least able to afford the devices.

-Apple moves outside its comfort zone. Audio and video integration has
been a hallmark of the Mac environment since day zero, and music has
been part of that integration. The Newton failed for many reasons that
are still likely painful for Apple executives to recall, but the iPhone
runs similar risks as the company enters markets only marginally
connected from its original business. Consumer electronics in the early
part of this decade was ripe for innovation – it still boggles the
imagination that Sony missed the music-player market – but the complex
world of telecom and handset manufacturers is yet another significant
step away from PC pricing, ecosystems, customer expectations, product
lifecycles, externalities, supply chains, etc.

If the iPhone follows the iPod as a success, it will be because:

-Apple invents a new category of device, learning from previous
failures. In the music player case, Apple integrated a far superior
music management software application with the MP3 player, and
implemented copy protection to satisfy the labels that their 99-cent
songs would not be copied indefinitely. In the iPhone case, Apple took a
variety of lessons from Motorola's ROKR music player+phone, which has
had its iTunes license pulled. Rather than being a followup to the
groundbreaking RAZR, the ROKR is essentially the answer to a trivia
question. The iPhone is a bet of a different order entirely.

-The user interface transcends anything else in the category not with
bells-and-whistles complexity but intuitive simplicity. Compare the
owner's manual of even a mid-price mobile handset to the iPod to get a
feel for what the iPhone user experience should be. The human finger
replaces the stylus that doomed everything from Apple's Newton to Palm's
Pilot, the device is aware of itself in space (much like the
surprisingly successful Wii), and the display's colors and lighting are
rich and vivid.

-Apple has once again used superior industrial design, elevated to the
level of art, to create unsurpassed "cool" factor in a category. The
microscopic attention to coherence and detail in the iPod, from
marketing to packaging to peripherals to product endorsers, creates an
emotional appeal found in few electronic devices.

-As venture capitalist John Doerr recently noted, Apple has a vast army
of users trained to synch their device with a computer. It's an
installed base of user behavior that could give the iPhone a jump-start
in adoption.

-The iPhone captures momentum amidst industry disruption. As mobile
broadband emerges from competing standards and platforms, the iPhone
could dominate a multi-radio niche just at the moment that heterogeneous
coverage becomes a reality. Going abroad? Working in a Starbucks
hotspot? Surfing on a train in the northeast corridor? Experimenting
with Clearwire or Sprint Wimax? Having a unified device to maintain
connectivity across access technologies could become extremely valuable.

-The demographics align: the price points, through whatever mechanism,
drive adoption in both the niche knowledge-worker and
technology-as-jewelry segments along with 20-somethings who replaced
landline phones with mobiles and may augment PCs with a
tablet-phone-music player.

-The beautiful device is powered by a "killer application." In the case
of the iPod it was clearly iTunes (not necessarily the music store), and
with the iPhone, it could be visual voice mail, being able to browse and
manage voice messages from the screen rather than having to listen to
them serially.

-The iPhone, rather than being a phone, is treated by enterprise IT
shops as a Unix terminal, with the caliber of security that implies. For
remote or salesfloor (think of boutique menswear or automobile
dealerships) sales forces needing both a catalog and a conversation
piece, or executives carrying valuable information on hard drives, or
mobile professionals needing secure communications and storage in a
variety of contexts, the iPhone could turn out to be highly relevant.
Furthermore, given how many people are likely to want (crave) the
device, there will be at least a few IT organizations that delight their
business clients with these secure, robust, engaging remote connection

However the iPhone plays out, I can't remember a product launch that
generated so much attention. (Microsoft's Vista launch, by contrast, is
a distant cousin of the fever generated by Windows 95's entry into the
market.) Industry analysts, Mac fans, gadget fiends, and future-scanners
are all watching closely to see if we're present at the creation of a
new industry with new possibilities for communications and lifestyle, or
if the audacity of the claims can't match the complexity and rigors of
real-world supply chains, sales channels, and use scenarios. Apple is
sticking with the June launch date, so we won't have to wait long to
find out.