Wednesday, October 16, 2013

"Think [Very] Different:" An Ambitious Strategy to Turn Around Apple's Growth Prospects

Much reporting has been flowing through the business press about what to do with the more $140 billion mountain of cash that is figuratively sitting in Apple's treasure chest in Cupertino. One prominent investor who recently bought $1.5 billion of Apple stock has come forward advocating for a massive equity buy-back as one option to push the value back up, while others say Apple must invest in its own future if it is to ever grow again. Despite continued earnings growth, the company's share price is still 25% off its peak above $700. Why? 

Underlying most analyses are a widespread fear that Apple no longer has what it takes to innovate without Jobs. Essentially, the market had priced in a very high share price based on future growth opportunities viewed to be limitless so long as Steve Jobs's creative brain was at the helm. The release of the iPad three years ago and the ensuing opening up of an entire new industry of e-readers—products that consumers didn’t know the needed—propelled Apple’s stock to stratospheric highs. Investors were convinced that Apple’s wizards could continue to out-innovate everyone, and were rewarded by soaring stock values.

Now, three years later, Apple’s stock sags under the weight of heavy expectations. To be fair, it has only been 3 years since apple revolutionized the e-reader and possibly the laptop business with the ipad. Since then, incremental advances and improvements have carried them along reinforced their position of dominance. But, copy-cats have eaten away at their market share. Android has leapt to the front of the pack, and all indications suggest that they have more room to grow. Windows phone like-wise has slowly but surely eaten its way into the market. Kindle Fire and HD are now credible and cheap alternatives to the ipad, slowly displacing market share.

Meanwhile, Apple is building a multi billion dollar facility in California to serve as its global headquarters. As an investor, I usually get suspicious when companies start spending their excess cash on massive extravagant homages to themselves, instead of innovation to stay ahead of the game. 

Investors have punished Apple, and rightly so. Its products are no longer unique in a marketplace devoid of competitors. Indeed, Apple’s competitive advantage in existing markets seems less certain than ever. Investors who are buying Apple at its recent low of $400 are hoping that its market cap and fundamental will carry it, or else that its next product, the iWatch, or a new and improved iTV will do again for their respective industry what the iPad did for e-reader: convince consumers to shell out hundreds of dollars for entirely re-imagined products they never knew they needed.

But many are not so optimistic. And this puts pressure on Apple. If it can not deliver another market-revolutionizing product, investors may forever take their money elsewhere, keeping its stock firmly tethered to earth for the foreseeable. On the other hand, if it tries and fails, things could be much worse. With all eyes on Apple, what’s a company to do?

Maybe the Solution is on the Roof

Why not move to an adjacency in consumer electronics: solar panels. They are consumer electronics, that just happen to go on your rooftop. And the industry is presently in a moment of supreme existential reevaluation.

Recently news broke that Apple would be building its second solar-powered data facility in the Nevada desert. But while media outlets like Reuters and Cleantechnia gave the company the obligatory pat on the back for good implementation of its environmental policy, no one asked the real question:

With the energy sector in such need of revolution, and Apple such an expert industry revolutionizer, couldn't Apple play a larger role as not just customer, but creator of clean tech?

Given the ambivalence of both the media and markets toward Apple’s potential for future innovation (it's stock has slid nearly 40 percent since its high of $702 last fall), a bold move toward innovation in an industry where innovation is sorely needed could do more than just save the planet. It could save Apple.

1. Apple needs to 'Think Different'

Apple is facing an interesting conundrum that only the second richest company in the world could face: It has too much money than it knows how to spend on its core business. Faced with this, Apple's leadership has opted to take what for any other company would be a safe move: paying off their shareholders with dividends and stock buybacks.

‘Safe,’ that is, for anyone but Apple. For the world's preeminent innovation role model, breaking a long-standing tradition of keeping revenues for reinvestment in future growth shows weakness, not strength. Instead of signaling to investors that Apple was a great bet on value, Apple's little bribes to its investors signaled that the company was out of game-changing ideas to invest in.

It has only been 3 years since Apple revolutionized e-readers, home computing, and possibly reading itself, with the iPad; 5 years since it changed how humans interact with each other and with the internet with the iPhone; and 12 since the iPod put the music industry finally and firmly on the path of digitization. But since then, Apple’s output has plateaued. Android has leapt to the front of the pack in smart phones operating systems, and all indications suggest that it has more room to grow. Windows phone similarly has slowly but surely eaten its way into the market. Kindle Fire and HD are now credible and cheap alternatives to the ipad, slowly displacing market share, even as the industry overall continues to grow.

Being on top makes you a big target, and just about every major device maker in the world has Apple in its sights. If Apple is going to regain its position as the world's preeminent authority in all things innovation, it's going to need to take its own advice, and "think different."

2. The Energy Industry is Ripe for Disruption

First of all, climate change is scary.

Second of all, energy is one of the largest and yet least innovative industries in the world. Roughly one out of every ten dollars spent globally is spent on energy, and 8 of the top 10 largest companies on Fortune's 500 list of biggest global companies make either oil, cars, or engines (the only two companies in the top-10 who don't are Apple and Warren Buffet's Berkshire Hathaway).

But despite being one of the biggest industries globally, energy companies are remarkably lazy when it comes to research and development, spending  just 0.42 percent of revenue on average on new technology, according to the Office of Energy Efficiency and Renewable Energy, or EERE. This is compared to an average of 7.9 percent in the electronics industry, and 20 percent in pharmaceuticals

This means that the transmission infrastructure technologies we use in many parts of the country hasn't really been updated since the 1950s. Power plants we have running today were built in the 1960s. And despite the rapid growth of data-enabled smart devices, our electricity storage, metering, appliances, heating, cooling, and transportation systems have for the most part remained unchanged for decades.

This dearth of innovation makes energy a sitting duck, and a substantial market opportunity for a well-resourced and ruthless innovator like Apple. We all saw that iTunes did to the then-teetering record publishing industry in 2001. Imagine Apple bringing that same innovative force to bear on the now-teetering fossil fuels industry. 

3. Apple has the financial capital

The pittance of capital trickling into energy R&D means would-be innovators are hungry for cash. And Apple has cash. Mountains of cash.

Just for a sense of scale: What Apple spends on R&D on OS X, iOS, hardware, and its other products in one year ($4 billion is projected for FY 2013) would run the federal government's Advanced Research Projects Agency for Energy, or ARPA-E comfortably for eight years. With the $140 billion Apple had sitting idle in the bank at the beginning of this year, it could have funded ARPA-E at its current funding level for 500 years.

Even more ambitious, taking into account both ARPA-E and the Department of Energy’s larger, older, and more established applied clean energy research program run by the office of Energy Efficiency and Renewable Energy, a roughly $2 billion research program in 2013—Apple could have run the entire federal clean energy technology research and development program at its current level for more than 50 years. Again, this is just with the cash Apple has today.

While it might not be wise to blow all of the company's cash on a clean technology research shopping spree, the astounding figures indicate that if Apple wanted to be a contender, it could be. Looking at the private sector instead of at the government, with the cash Apple has on hand, it could buy a commanding position in every single US-based clean tech company to receive venture funds in the last decade, and still have $100 billion left over.

4. Apple has the intellectual and physical capital

Of course, transforming the U.S. energy industry is not as simple as buying up patents, technologies, or companies wholesale. The right team with the right tools and the right vision is also needed, but there again Apple has assets to bring to bear.

Apple's existing supply chain relationships and size-based negotiating leverage, its research, development, prototyping, and manufacturing capabilities, and its formidable intellectual property portfolio all position Apple well to revolutionize clean energy. Apple’s existing patents on battery, charging, dynamic data management, and even solar technologies could serve a springboard for a broader foray away from powering their consumer devices and toward becoming a major innovator and supplier of clean technology components.

Whatever additional IP it needed, Apple could license, buy, or invent. Exactly what kind of clean tech devices Apple might want to make would be anyone's guess. They are, after all, the innovators.

Perhaps Apple would want to start small, sticking to what it knows with consumer-focused home clean energy and energy efficiency technologies, like smart thermostats. Apple could buy Nest, a zesty startup that is quietly doing to thermostats what the ipod did to music players. Or maybe Apple would want to create super user-friendly, easy-to-install solar panels to charge your appliances, power your home, or sell energy to the grid. Maybe Apple would develop smart meters that seamlessly send real-time home electrical consumption data to your iPhone or OS X dashboard, alert you when an appliance has been left on, and saves all data to your iCloud account. This would of course all be presented with the sleek, elegant, and simple design sensibilities that are Apple's calling card.

5. Apple has the human capital

The notion that Apple could revolutionize clean energy is not new. Greenpeace laid out a “Clean Energy Roadmap for Apple” last summer calling on the company to go coal free and power its data centers with 100 percent renewable energy. But where Greenpeace and other commentators leave off is exactly where Apple has the potential to pick up: Apple has the potential to be not just a consumer but a creator of disruptive clean technology innovations.

Apple's people are the best in the world at re-imagining and rapidly reinventing entire sectors of the economy. They introduced a step-change in the consumer experience of personal computing in the late 90's, then music in the early 2000's, phones in the mid 2000's, and now books, games, movies and our entire digital experience with the iPad in 2009. With nearly infinite resources at their disposal, and the ability to bring on new expertise as needed, there is no reason to doubt that the company's innovative ethos couldn't apply to energy as it has to personal computing, communications, and media.

The notion that a company with such a keen focus on one industry (consumer electronics) could branch out into something so seemingly different may seem at first counterintuitive. But then, look at the history of corporate entities. Google got its start in search, but now makes mobile operating systems, email, maps, calendars, glasses, and self-driving cars. IMB got its start in mainframes, then made personal computers, and now has a successful global B2B technology solutions consulting business. Nokia was founded as a paper mill in the late 1800s and now is a major wireless carrier. And 3M, the company that makes Scotch Tape, among thousands of other brands, was founded in 1902 as the Minnesota Mining and Manufacturing Company, and sold a popular chemical to grinding wheel manufacturers.

Perhaps most iconic, the presence of Richard Branson’s Virgin Group in more than a dozen unrelated consumer-facing industries proves that corporate evolution into new markets is neither new nor unusual. And it may be time for Apple to evolve, or descend into irrelevance as it is slowly consumed by competition from its own copy-cats.

Apple is at the height of its power, wealth, and brilliance. In this moment, Tim Cook has a decision to make: whether Apple will count its blessings, spend its cash on stock buybacks and dividends that do not advance innovation or open new longterm growth trajectories, and settle in for a slow decline as competitors slowly whittle away at its dominance in favored sectors. Or, whether Apple will once again “think different,” and take a once-in-a-century opportunity to bring its innovative muscle to new markets ripe for revolution.