Over the last few quarters, a number of hedge funds have accumulated large positions in Apple Computer (AAPL). Apple features prominently in the top fifteen holdings of at least Blue Ridge Capital, Citadel, Conatus Capital, Eminence Capital, Galleon, Maverick Capital, Tiger Global and Tremblant Capital. In quite a few of these funds, AAPL has been a top holding for nearly a year now.
What’s going on?
It’s no secret there’s a shift underway in the mobile device market. Years after futurists predicted the coming rise of mobile computing, and years after multiple technology companies were burned one after the other by over-investing in this trend prematurely, e.g.
- from Apple’s pioneering Knowledge Adventure video and the failed manifestation of this vision, i.e. Newton, in the 1980s
- to Danger in the 1990s
- to Microsoft’s perpetually misguided foray into the mobile world in the 1990s all the way to the present
a number of factors are finally converging to create a mobility megatrend. The availability of cheap silicon, substantial improvements in network access (baked into SoC silicon), and inexpensive screens and interfaces, has meant a good mobile computing experience is finally possible for the end consumer.
It’s becoming clear to the market who the winner in this emerging space is. The chart below says it all.
In less than two years since when it launched a product in the industry, Apple has grown to capture half the operating profit of the entire mobile device industry. That’s simply phenomenal. For every $1 in profit the industry generates, Apple gets 50 cents. That’s happened virtually overnight, since the iPhone only debuted in 2007. If I was Nokia, I’d be sweating bullets.
To be fair, Apple’s margins do not necessarily come at the expense of the other manufacturers. Its gross margins on its iPhone are significantly higher than anyone else’s and as a result, Apple has grown the pie for the aggregate operating margins available in the industry. Almost all this growth accrues directly to Apple’s bottom line.
It’s acknowledged in the industry that handset market growth hit a plateau at 1.2 billion units per year. Incremental handset growth comes from the replacement market, not greenfields. That means new features and functionality are needed to drive upgrades, and the customer adoption of new phones, primarily smartphones, is where the game for EBITDA will be played. Smartphones are under-penetrated in every geography in the world, with only 30% penetration in North America and Europe and 15% penetration worldwide. In spite of a tough global economy, they are growing 25% yoy.
Not only does Apple have some of the best products in the smartphone market, they are one of the few handset manufacturers that’s been able to build a successful consumer relationship via a platform. You use your laptop to manage your email, calendar and contacts, and have it all wirelessly synced to your mobile phone. You snap photos with your iPhone and have those pictures synced to your machine at home. As a customer, who do you have your mobile relationship with? The carrier? Certainly not. Despite all of its best efforts to stand in the way, the smartphone turns the wireless network into a dumb pipe. Your trusted relationship, more than ever, is with the provider of services and mobile computing platform. That’s Apple.
If you have to switch providers, it’s likely an irrelevant and meaningless (read: commodity) switch. If you have to switch manufacturers and platforms, that probably becomes a bit more nightmarish. Apple stands directly in the center of this mobile computing revolution. If the services and platform are well played, it’s a center that’s increasingly difficult to be displaced from.
The only question now is how much of this is already priced into Apple’s stock.
