Read “Apple Inc. in 2015” (pages 1-8) and answer the following questions: 1.What type of competitive advantage did Steve Jobs pursue for Apple’s PC business, and what type of business strategy did he use to gain that competitive advantage? (Use only the

20180906032302bus_605_week_2_slides1.pptx20180906024511creating_value1 x20180906024511trade___offs1 x20180906024458apple__1_1

Read “Apple Inc. in 2015” (pages 1-8) and answer the following questions:

1.What type of competitive advantage did Steve Jobs pursue for Apple’s PC business, and what type of business strategy did he use to gain that competitive advantage? (Use only the information in the Apple 2015 case to answer this question. No further research is required.)

2. Explain what specific value chain activities were implemented by Steve Jobs as part of Apple’s PC business strategy and how these actions delivered a competitive advantage for that business. (Use only the information in the Apple 2015 case to answer this question. No further research is required.)

note:

1- you should use all these 3 materials.( Do not use other external sources)

-“Apple Inc. in 2015” ( read pages 1-8)

–Creating Value.( read all pages)

–Trade-offs: The Linchpin..( read all pages)

2-you should cover and analysis all these questions.

3-you should add your thought and your opinion on each part of questions and analysis them.

4-I want all the answers academic and exact.

5-Do not plagiarism the answer or cheat it and do not use previous solutions for students or from the internet.

Week 2

Strategic Leadership II

Use Value Chain Analysis & Business Strategy to Gain Competitive Advantage

Competitive Advantage
Achieving a larger spread between relative price (value) & relative costs(Magretta,2012)
The value chain is the basis of competitive advantage
Value chain is the collection of firm activities
CA results from a difference in firm activities
The goal of strategic leadership is CA
Strategy is the means to achieve this goal

A Generic Firm Value Chain
FIRM INFRASTRUCTURE
HUMAN RESOURCE MANAGEMENT
TECHNOLOGY DEVELOPMENT
PROCUREMENT

INBOUND OPERATIONS OUTBOUND MARKETING SERVICE
LOGISTICS LOGISTICS & SALES

PRIMARY
ACTIVITIES
SUPPORT
ACTIVITIES

3
6

Core Dimensions of Strategy
A distinctive value proposition
Which customers?
Which needs?
What relative price?
A distinctive value chain
Making trade-offs
Strategy is the integrative element
“…deliberately choosing a different set of activities to deliver a unique mix of value.”

Generic Competitive Strategies
Porter’s three generic competitive strategies represent the basic consistency of effective strategy and the fundamental dimensions of strategic choice
Broadly describe how a firm is looking to compete
Note the perils of becoming stuck in the middle
Cost leadership
Emphasis on ↓cost
Differentiation
Emphasis on ↑ willingness to pay
Focus
Includes emphasis on a specific/narrow scope

The Examples
A distinctive value proposition
Customer: Walmart, Progressive, or Edward Jones
Needs: Enterprise Rent-A-Car or Zipcar
Price: Southwest or Aravind Eye Hospital
A tailored value chain
Same as provided above
How different does different need to be?
Limits are essential…path dependence
Equifinality & the rugged landscape
The role of creativity

Southwest or Aravind Eye Hospital are good example
6

Trade-offs
Opportunity costs & path dependence
Arise as a result of incompatibilities
Product/service
Activities
Reputation
Protect the sustainability of competitive advantage
Perils of “straddling” or “repositioning”
Ex – McDonald’s, British Airways, or Blockbuster
Cost/quality trade-off

Cost Leadership
Figure 5.2

Differentiation
Figure 5.3

CreatingValue

The Core

taking Out Your Company’s Unique Competitive Position Using Michael Porter’s

lements of Strategy

Excerpted from

Understanding Michael Porter:

The Essential Guide to Competition and Strategy

Joan Magretta

Buy the book:

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Barnes & Noble

BR.org

Harvard Business Review Press

Boston, Massachusetts

ISBN-13: 978-1-4221-8895-8

8891BC

Printed in the United States of America

This chapter was originally published as chapter 4 of Understanding Michael Porter: The Essential Guide to Competition and Strategy,

No part of this publication may be reproduced, stored in or introduced into a retrieval system, or transmitted, in any form, or by any means (electronic, mechanical, photocopying, recording, or otherwise), without the prior permission of the publisher. Requests for permission should be directed to

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or by calling 888-500-1016 or, outside the U.S. and Canada, 617-783-7410.

CHAPTER 4

Creating Value:

The Core

TRATEGY’S FIRST TEST, HAVING a distinctive value proposition, is so intuitive that many managers think

they have a strategy if they can get this far. Choosing the particular kind of value you will offer your customers is the core of competing to be unique. But recall the deﬁnition of competitive advantage: a difference in relative price or relative costs that arises because of differences in the activities being performed. Your value chain must be speciﬁcally tai- lored to deliver your value proposition. A value proposition that can be effectively delivered without a tailored value chain will not produce a sustainable competitive advantage. The tailored value chain is Porter’s second test, and it is neither obvious nor intuitive.

How these two core elements of strategy are linked to each other—and how they are linked to industry structure and competitive advantage—is the subject of this chapter. Strategy means deliberately choosing a different set of activities to deliver a unique mix of value. If all rivals produce the same way, distribute the same way, service the same way, and so on, they are, in Porter’s terms, competing to be the best, and not competing on strategy.

2 UNDERSTANDING MICHAEL PORTER

The First Test: A Distinctive Value Proposition

The value proposition is the element of strategy that looks outward at customers, at the demand side of the business. A value proposition reﬂects choices about the particular kind of value the company will offer, whether those choices have been made consciously or not. Porter deﬁnes the value proposition as the answer to three funda- mental questions (see ﬁgure 4-1):

· Which customers are you going to serve?

· Which needs are you going to meet?

· What relative price will provide acceptable value for customers and acceptable proﬁtability for the company?

FIGURE 4-1

The value proposition answers three questions

Which customers?

Which needs?

· What end users?

· What channels?

·
Which products?

· Which features?

· Which services?

What relative price?

· Premium? Discount?

Creating Value 3

The value proposition is the element of strategy that looks outward at customers, at the demand side of the business. The value chain focuses internally on operations.

Strategy is fundamentally integrative, bringing the demand and supply sides together.

This deﬁnition reﬂects the evolution of Porter’s thinking beyond his 1996 HBR article “What Is Strategy?” There he described three sources of positioning: variety, needs, and access. Subsequent work led him to the more complete formulation discussed here, one he has elaborated over the past decade in numerous speeches and lectures.

Which Customers?

Within an industry, there are usually distinct groups of customers, or customer segments. A value proposition can be aimed speciﬁcally at serving one or more of these segments. For some value propositions, choosing the customer comes ﬁrst. That choice then leads directly to the other two legs of the triangle: needs and relative price.

Customer segmentation is typically part of any good industry analysis, and choosing the customer(s) you will serve can be an important anchor in your positioning vis-à-vis the ﬁve forces. In the examples that follow, note how each reﬂects a different basis for seg- mentation: Walmart’s segmentation was based on geography, Progres- sive’s on demographics, and Edward Jones’s on psychographics.

Given that Walmart is the world’s largest retailer, with over $400 billion in sales, it may seem irrelevant to ask which segment Walmart

4 UNDERSTANDING MICHAEL PORTER

serves. But like all large companies, Walmart started small, and it had to pick a place to begin. Choosing to serve a speciﬁc customer group gave Walmart its start. In the 1960s, when Walmart began opera- tions, discount retailing was a new, disruptive business model. While the early players focused on big cities and metropolitan areas like New York, Sam Walton did something unique: he chose isolated rural towns with populations between 5,000 and 25,000. Walmart’s “key strategy,” in Walton’s own words, “was to put good-sized stores into little one-horse towns which everybody else was ignoring.”

In terms of the ﬁve forces, this choice of customers insulated Wal- mart from direct rivalry with other discounters. Although people tend to think of Walmart as a ﬁerce competitor, Walmart started out by completely avoiding head-to-head competition. Doing so gave it many years of breathing room to develop and extend its positioning as a provider of everyday low prices.

Progressive, the Ohio-based auto insurer, also built a strategy around a customer its industry was largely avoiding. For about three decades, Progressive thrived by choosing to serve what the industry called “nonstandard” drivers, those more likely to be involved in acci- dents and to ﬁle insurance claims (motorcycle owners, for example, or motorists with drunk-driving records). With few alternatives, non- standard buyers typically had little bargaining power.

Finally, if you look at the wealth management business, you’ll ﬁnd just about everyone chasing the same demographic segment: the high- net-worth individual. Not Edward Jones, one of the consistently most successful U.S. brokerage ﬁrms. For thirty years, it has focused on cus- tomers deﬁned not by how much money they have, but on their atti- tude toward investing. Jones serves conservative investors who delegate ﬁnancial decisions to a trusted advisor. In terms of the ﬁve forces, this customer segment has been less price sensitive and more loyal.

Creating Value 5

As often happens, each of these value propositions targeted a cus- tomer group overlooked or avoided by the industry. That’s not essen- tial, however. In insurance, for example, USAA has been a stellar performer with a value proposition aimed at low-risk customers. Here’s what is essential: ﬁnding a unique way to serve your chosen segment proﬁtably.

Which Needs?

In many cases, choosing the need the company will serve is the pri- mary decision that leads to the other two legs of the triangle. Here, strategy is built on a unique ability to meet a particular need or a sub- set of needs. Often that ability arises from the speciﬁc features of a product or service. Typically, value propositions based on needs appeal to a mix of customers who might defy traditional segmenta- tion. Instead of belonging to a clear demographic category, the com- pany’s customers will be deﬁned by the common need or set of needs they share at a given time.

Typically, value propositions based on needs appeal to a mix of customers who might defy traditional demographic segmentation.

Enterprise Rent-A-Car is the market leader in car rental services in North America, where it is bigger than the once-dominant players, Hertz and Avis. Enterprise has also been dramatically more prof- itable. It is the only major company in the industry that has enjoyed sustained superior proﬁtability, because for decades it pursued a dis- tinctive strategy.

6 UNDERSTANDING MICHAEL PORTER

The Enterprise value proposition is based on a simple insight: renting a car meets different needs at different times. Hertz and its followers in the industry built their business around travelers, people away from home on business or on vacation. Enterprise recognized that a sizeable minority of rentals, roughly 40 to 45 percent, occur in the renter’s home city. If your car is stolen, for example, or damaged in an accident, you’ll need a rental. In such cases, your insurance company might cover the cost, usually with contractual limits on the price it will pay. About a third of Enterprise’s revenues come from insurers. Other occasions prompt home-city rentals as well—for example, when a car has a mechanical failure or when a child is home from school on vacation. In all of these uses, home-city car renters tend to be more price sensitive than business or vacation travelers.

Enterprise crafted a unique value proposition to meet these needs: reasonably priced, convenient, home-city rentals. Compared with Hertz and Avis, Enterprise has chosen to serve a different need at a different relative price. It is not that Enterprise is the best car rental company. Nor is the market it serves inherently better. But starting with the speciﬁc need it serves, Enterprise has made a different choice about the value proposition triangle. Enterprise’s customer base would confound traditional market segmentation by demo- graphic characteristics.

ipcar, started in Cambridge, Massachusetts, in 2000, is pursuing a different path to uniqueness in home-city car rentals. Its value proposition targets yet another kind of customer with a different kind of need (see ﬁgure 4-2). Zipsters, as the company’s members are called, are often people who choose not to own a car, but who occa- sionally need to use one. Zipcar allows them to rent a car for time periods as short as an hour.

Creating Value 7

FIGURE 4-2

Positioning maps

Higher price

Years later, Zipcar further segmented

home-city renters

Lower price

Travelers

Home renters

Hourly pricing

Z
E

Daily

While Hertz focused on travelers, Enterprise served home-city renters

Car owners Non-owners

pricing

Zipcar offers an interesting and complex mix of value: extreme convenience in vehicle pickup and drop-off; extreme ﬂexibility in the rental period; clear, all-inclusive pricing that includes insurance and gas; and the intangible “cool” factor associated with this fast- growing brand. I should add that because this company is an early work-in-progress, it will undoubtedly continue to test the bound- aries of its value proposition and to make adjustments to it as it learns.

What Relative Price?

For some value propositions, relative price is a primary leg of the trian- gle. Some value propositions target customers who are overserved (and hence overpriced) by other offerings in the industry. A company can win these customers by eliminating unnecessary costs and meeting “just enough” of their needs. At the product level, think about

8 UNDERSTANDING MICHAEL PORTER

the difference between a bare-bones cell phone and a more expensive, feature-laden smartphone. Where customers are overserved, the lower relative price is often the dominant leg of the triangle.

Conversely, some value propositions target customers who are underserved (and hence underpriced) by other offerings in the indus- try. Customers who choose NetJets instead of ﬂying ﬁrst class on a commercial airline, for example, want an enhanced service and are willing to pay a steep premium for it. Similarly, Denmark’s Bang & Olufsen (B&O) gives its customers something more than the spec- tacular sound quality offered by other high-end audio equipment makers. B&O’s customers want products that look as good as they sound, and they are willing to pay more for beautiful design. In value propositions like B&O’s, the unmet need is typically the dominant leg of the triangle, while the higher relative price supports the extra costs the company has to incur to meet it.

When Needs Are Overserved: Southwest. According to company legend, here’s how Southwest Airlines was born. Back in the late 1960s, “a couple of guys said, ‘Here’s an idea. Why don’t we start an airline that charges just a few bucks and has lots of ﬂights every day instead of what the other guys are doing—charging a lot of bucks and having just a few ﬂights each day?’” That, in a nutshell, is Southwest Airlines’ value proposition: very low prices coupled with very conven- ient service.

Southwest Airlines, the most successful—and the most emulated— airline in the world, has thrived by meeting “just enough” of its cus- tomers’ needs at dramatically lower prices. From its humble beginnings ﬂying only to three cities in Texas in 1971, Southwest has grown to be one of the world’s leading airlines, both in size and in proﬁtability. It has done so with a value proposition that for three decades was radically different from other airlines.

Creating Value 9

Southwest didn’t promise to get you anywhere you wanted to go, as other airlines did. Nor did it offer the basic amenities that were once standard industry fare: meals, assigned seats, baggage transfers. Full- service airlines (perhaps a term that no longer accurately describes the legacy carriers, with their higher costs and prices) overserved the needs of a large number of travelers ﬂying Southwest’s shorter point- to-point routes.

Southwest’s value proposition put it in a unique position vis-à-vis the ﬁve forces. As most know, the airline industry is brutally inhos- pitable.

· Suppliers, especially the labor unions but also plane makers, are powerful.

· Customers are powerful because they are price sensitive and have low switching costs.

· Rivals, dealing with high ﬁxed costs, compete on price to ﬁll seats.

· New entrants are a constant threat, because entry barriers are lower than you might think. You can start an airline with a cou- ple of leased planes.

· Substitutes keep prices down. Customers can choose other forms of transportation, especially on shorter trips.

Southwest’s low relative costs provided shelter from the industry’s self-destructive price competition. Moreover, its value proposition gave it a truly unique positioning vis-à-vis that last force, substitution. Its low fares made ﬂying an attractive alternative for price-sensitive travel- ers accustomed to driving or taking a bus. In the early years, a share- holder asked CEO Herb Kelleher if Southwest couldn’t raise its prices by just a few dollars since its $15 price on the Dallas–San Antonio

10 UNDERSTANDING MICHAEL PORTER

route was so much lower than Braniff ’s $62 fare. Kelleher said no, our real competition is ground transportation, not other airlines.

Consider Southwest’s ﬁrst expansion beyond its original three cities, Dallas, Houston, and San Antonio. It chose Harlingen, Texas, a town in the Rio Grande Valley probably few people have ever heard of. The year before Southwest launched its service, 123,000 passengers ﬂew from Southwest’s base cities to the Valley. Within a year after Southwest began ﬂying to Harlingen, passenger volume jumped to 325,000.

And price isn’t the whole story. Southwest was also more conven- ient. First, its frequent departures allowed customers to travel when they wanted. Second, its ﬂights arrived on time and customers didn’t have to wait in slow lines at the ticket counter. Third, the secondary airports that became central to Southwest’s strategy were closer to downtown, cutting a traveler’s total trip time. These convenience fac- tors were a draw for business travelers.

Southwest didn’t ﬁgure out every element of its value proposition on Day One. Companies rarely do. It learned by doing. Here’s a clas- sic example of how that happens in practice. In 1971, one of the planes in Houston needed to go to Dallas for routine maintenance over the weekend. Then-CEO Lamar Muse didn’t want to ﬂy the plane empty, ﬁguring that some revenue was better than none. He offered seats on the Friday-night ﬂight for $10, half off the standard

$20 fare on that route. The ﬂight sold out, providing some extra cash for the struggling start-up.

Even better than the cash was the game-changing insight about Southwest’s customers. Some were clearly more price sensitive, and less time sensitive, than others. Muse acted immediately. He raised the peak fare to $26 and dropped the off-peak fare to $13. Multiple- tier pricing is now standard industry practice, but at the time, it was a major innovation. It allowed Southwest to further segment its customers and to ﬁll its planes. Lower off-peak fares appeal to leisure

Creating Value 11

travelers who are more price sensitive and have greater ﬂexibility about when they travel than do business passengers.

Thus Southwest’s value proposition cut across traditional cus- tomer segments, appealing, on given occasions, to a variety of cus- tomers: business travelers, families, and students. Instead of meeting all of the needs of a target customer all of the time, Southwest meets one type of need that many customers have at least some of the time. Southwest created a distinct kind of value that, for many decades, distinguished it from other airlines.

Although Southwest has been widely imitated, it would be a mis- take to say that Southwest has found the “best” value proposition for the industry. It is only “best” at meeting a particular kind of need at a particular relative price.

When Needs Are Underserved: Aravind Eye Hospital. India’s Aravind Eye Hospital was founded in 1976 by an idealistic retired army surgeon, Govindappa Venkataswamy, known as Dr. V. Dr. V. didn’t need a detailed market segmentation map to identify a large population with a dramatically underserved need. Millions of Indians suffer from preventable blindness because they can’t afford cataract surgery. Starting with just eleven beds and three doctors, Aravind has become the world’s largest provider of eye care in the world, perform- ing about 300,000 surgeries a year, at least two-thirds of them for free. Aravind has an extraordinary value proposition. Correction: it has two value propositions. One is aimed at afﬂuent customers who want the best eye care money can buy. These customers want to be seen by state-of-the-art doctors in state-of-the-art facilities, and they are will- ing to pay the going market rate for such advanced medical care.

That’s one value proposition.

The second is for those who can’t afford to pay and who would otherwise become blind. Aravind offers them sight, and the

12 UNDERSTANDING MICHAEL PORTER

independence that goes with it. The medical care is identical to that provided to the paying patients—same doctors, same operating rooms. The hotel function (room and board) is vastly stripped down. But the price is stripped down even further, all the way to zero.

Aravind has thrived by meeting vitally important needs for two dis- tinct customer segments, at different price points. What’s most remarkable is that Aravind is ﬁnancially self-sustaining—it depends neither on government money nor on charitable donations, although its success has increasingly attracted the latter. Instead it has a strat- egy that has proven to be sustainable for over three decades.

The ﬁrst test of a strategy is whether your value proposition is different from your rivals. If you are trying to serve the same customers and meet the same needs and sell at the same relative price, then by Porter’s deﬁnition, you don’t have a strategy.

In most businesses, there are many different possible conﬁgura- tions of the value proposition triangle. Some companies serve virtu- ally all customers in the market but only meet a speciﬁc need or cluster of needs. Other companies serve a more focused customer base but aim to meet more of those customers’ needs. Some compa- nies deliver higher value at a premium price. Others, enabled by their efﬁciency, offer a low relative price.

The ﬁrst test of a strategy is whether your value proposition is differ- ent from your rivals. If you are trying to serve the same customers and meet the same needs and sell at the same relative price, then by Porter’s deﬁnition, you don’t have a strategy. You’re competing to be the best.

Creating Value 13

The Second Test: A Tailored Value Chain

If you’re trying to describe a strategy, the value proposition is a natural place to begin. It’s intuitive to think of strategy in terms of the mix of beneﬁts aimed at meeting customers’ needs. But the second test of strategy is often overlooked because it is not intuitive at all. A distinc- tive value proposition, Porter explains, will not translate into a mean- ingful strategy unless the best set of activities to deliver it is different from the activities performed by rivals. His logic is simple and com- pelling: “If that were not the case, every competitor could meet those same needs, and there would be nothing unique or valuable about the positioning.”

Insight into customers’ needs is important, but it’s not enough. The essence of strategy and competitive advantage lies in the activities, in choosing to perform activities differently or to perform different activities from those of rivals. Each of the companies we’ve just described has done just that, tailoring their value chains to their value propositions.

Walmart, Progressive, and Edward Jones

Let’s return to the trio of companies whose value propositions were built around serving a distinct customer. We’ll begin our look at tailored value chains by simply highlighting the major activity choices that reﬂect each company’s chosen segment, and how those choices are dif- ferent from those made by rivals who are serving different customers.

First, Walmart. While other discounters chose to put stores in large metropolitan areas, Walmart invested in small-town locations, where the nearest city was probably a four-hour drive away. Walton knew this terrain well. He rightly bet that if his stores could match or beat those city prices, “people would shop at home.” Moreover, many of Walmart’s markets were too small to support more than one large

14 UNDERSTANDING MICHAEL PORTER

retailer. This was a powerful barrier to entry. By being ﬁrst, Walton was able to preempt competitors and discourage them from entering Walmart’s territory, allowing the company time to hone the enduring sources of its competitive advantage: its ability to provide everyday low prices in markets all across the country and beyond.

Progressive’s target customer posed a special challenge. How do you turn a bad driver into a proﬁtable customer? Progressive needed a different value chain from the industry’s standard one. First, Progres- sive tackled risk assessment in a different way, building a massive database with more granular indicators that better predicted the probability of accidents. It used this data to spot the good risks in pools that looked like bad drivers to other insurers. For example, among drivers cited for drinking, those with children were least likely to reoffend; among motorcyclists, Harley owners aged forty-plus were likely to ride their bikes less often. Progressive used information like this to set prices so that even the worst customers could be proﬁtable. Progressive’s competitive advantage, then, started with relative price (for comparable risks).

Second, since accidents were likely, Progressive focused on mini- mizing their cost once they occurred. The faster claims were settled, for example, the more money Progressive could save. (Less time meant fewer lawsuits.) Progressive’s value chain accomplished this in a number of ways. Most dramatically, an adjuster equipped with a company van and a laptop could go directly to the accident scene and issue a check on the spot. This was not common practice in the industry. Progressive’s competitive advantage, then, also had a com- ponent of lower relative cost.

Like Progressive, Edward Jones also tailored its value chain to its chosen customer segment, conservative individual investors who wanted a trusted advisor to make ﬁnancial decisions for them. Trust is built through personal, face-to-face relationships. To that end,

Creating Value 15

Jones invests in conveniently located ofﬁces, and lots of them—in small towns, suburbs, and strip malls. Each ofﬁce has just one ﬁnan- cial advisor, a model unique in the industry. Jones prefers to hire from outside the industry, looking for advisors with both community and entrepreneurial spirit. It spends heavily on training new hires in its conservative product line (mostly blue-chip investments) and its buy- and-hold philosophy.

Jones pays a price for these activities tailored to its chosen cus- tomer. It foregoes revenue from more frequent trading or more exotic investments with higher margins. Its training and its occupancy costs are high relative to other brokerage ﬁrms. But these activities create value for Jones’s chosen customers, who are willing to pay a large pre- mium ($100 per trade versus $8 for low-priced brokers) for Jones’s trusted personal touch.

Aravind’s Value Chain

The original inspiration for Aravind came from, of all places, McDonald’s. Dr. V. wanted to produce cataract surgeries as efﬁ- ciently and as consistently as McDonald’s produced hamburgers. He designed a system that does just that.

Essentially, while a surgeon is operating on one patient, the next patient is already prepped on a table behind him. When one opera- tion ends, the surgeon simply turns around and starts the next one. Not a minute of the skilled surgeon’s valuable time is lost. Everyone in the operating room, including the surgeon, is trained to follow a standardized procedure. Every step in the process is carefully inte- grated to produce an efﬁcient whole.

The results speak for themselves: Aravind, in 2009–2010, per- formed about 5 percent of all eye surgeries in India, employing only 1 percent of the nation’s ophthalmic manpower. The achievement

16 UNDERSTANDING MICHAEL PORTER

mirrors that of Henry Ford’s assembly line for the Model T, which made Ford workers ﬁve times more productive than the auto industry average. Aravind has made cataract surgery affordable by applying the core design elements that Ford used to make cars affordable for the masses: standardization of activities, specialization of labor and equipment, and a high-volume production line that never stops.

The operating model drives Aravind’s ability to create value, but it’s not the whole story. After all, what good is being a low-cost producer in a market where even low cost is too expensive? Dr. V.’s solution: charge paying customers market rates. Because Aravind’s costs are so much lower than other providers, each paying customer subsidizes free care for two. That, very roughly speaking, is the arithmetic of Aravind’s competitive advantage.

Aravind’s value chain choices support its ability to attract paying customers, who are housed in a separate wing or building that offers every modern comfort. The real draw, however, is the quality of the medical care. Aravind is professionally state of the art. It has devel- oped a premier teaching and research institute, with afﬁliations with leading eye centers around the world. Its doctors are world class.

Those of you who understand the challenges faced by hospital administrators are now probably shaking your heads. How do you get surgeons to agree to be treated like assembly line workers? A ﬁve forces analysis of this industry would tell you that surgeons have all the lever- age to demand shorter hours, higher pay, and more autonomy. Yet Aravind is able to do something that continues to elude health-care delivery in the United States. Aravind tracks costs, time, and results— even postsurgical outcomes—all of which can be traced back to speciﬁc doctors and the data used to help them improve their performance.

There is a glib answer for how Dr. V. was able to ﬁnd doctors willing to accept these conditions. His original hires were family members. They simply couldn’t say no. There is a more serious answer as well. Dr.

V. has built an organization that offers two powerful nonmonetary

Creating Value 17

rewards. One is its commitment to professional development and excellence. Consider, for example, the extensive training it provides and its professional afﬁliations. The second is an appeal to selﬂess serv- ice and compassion. This is an organization on a mission. And that mis- sion, as intangible as it sounds, contributes to Aravind’s competitive advantage in tangible ways. Aravind’s values allow it to recruit and retain the talent it needs and to conﬁgure its activities in an extraordi- nary way—a way that is perfectly tailored to its value proposition.

Aravind provides quality eye care at a price everyone can afford. That’s its value proposition. Its tailored value chain turns that prom- ise into a strategy.

Southwest’s Tailored Activities

Comparing high-minded Aravind to fun-loving Southwest Airlines may feel like a stretch, but strategically speaking they have a lot in common, and a lot to teach about strategy. Both have produced sustained supe- rior performance in the face of difﬁcult industry conditions.

Like Aravind, Southwest has cultivated a service culture that makes its strategy work. The company spent most of its early years ﬁghting legal battles that threatened its very survival. The existing carriers in Texas did not want a low-priced competitor to enter the market. They used every legal and political weapon money could buy to prevent Southwest from ﬂying. This intensiﬁed the sense of mis- sion at Southwest, creating a distinctive “warrior” culture dedicated to freeing travelers from the grips of a customer-unfriendly industry. Southwest’s employees, like Aravind’s, go the extra mile. Though unionized, they have never adopted the adversarial, zero-sum attitude toward the company that has plagued other airlines. This contributes to competitive advantage, raising customer satisfaction and lowering relative costs. Both Southwest and Aravind, for example, beneﬁt from low turnover.

18 UNDERSTANDING MICHAEL PORTER

Before Southwest’s success shook up the airline industry, most car- riers pursued a common way of competing, imitating each other’s hub-and-spoke systems, pricing structures, frequent ﬂyer programs, and union agreements. Southwest chose not to pursue these industry “best practices”—some of them valid ways of competing that meet other needs on other types of routes. Instead, Southwest has created a tailored conﬁguration of activities to deliver its unique outcome.

The traditional full-service airline is designed to get passengers from almost any point A to any point B. To reach a large number of destinations and serve passengers with connecting ﬂights, full-service airlines employ a hub-and-spoke system centered on major airports. To attract passengers who desire more comfort or services, they offer ﬁrst class or business class. To accommodate passengers who must change planes, they coordinate schedules and check and transfer bag- gage. Because some passengers will be traveling for many hours, full- service airlines traditionally served meals.

Southwest, in contrast, tailored all its activities to deliver frequent service on its particular type of route at the lowest cost. From the start, it didn’t offer meals, assigned seats, interline baggage checking, or premium classes of service, all of which contributed to the faster gate turnaround times we saw in chapter 3. This enables Southwest to keep planes ﬂying longer hours and to provide frequent departures with fewer aircraft. Gate and ground crews are leaner, more ﬂexible, and more productive than its rivals. A standardized ﬂeet of aircraft boosts the efﬁciency of maintenance. As Web-based travel sites became a popular distribution channel, most airlines rushed to sign up (a bad decision for industry structure, since it pushes customers to buy on price alone). Not Southwest. Its passengers buy tickets directly on the Southwest Web site, bypassing other channels and allowing Southwest to avoid sales commissions.

Creating Value 19

These are just some of the cost drivers underpinning Southwest’s competitive advantage, allowing it to serve more passengers per employee, to get more daily departures per gate, and to get more hours of use per plane. Southwest staked out a unique and valuable strategic position based on a tailored set of activities. On the routes served by Southwest, a full-service airline could never be as conven- ient or as low cost.

A strategic positioning, especially when it has a high degree of focus, is sometimes seen as carving out a “niche.” The implication of that word is that the market opportunity is small. Although this may sometimes be the case, even focused competitors can be very large. In the case of Southwest, what initially looked like a narrow niche has revolutionized the airline industry. Both Southwest and our next example, Enterprise Rent-A-Car, have become industry leaders.

Car Rental Value Chains

Enterprise’s unique value proposition—rentals for car owners in their home city—is only part of the story of its success. The choices it has made in conﬁguring its value chain explain its competitive advantage. Enterprise was able to serve customers who wanted lower costs because those needs could be met with a different, lower-cost conﬁg- uration of activities. Enterprise’s strategic insight was that its particu- lar value proposition would require a completely different value chain from a Hertz or an Avis.

Other car rental companies chose high-rent locations convenient to travelers, for example, airports, train stations, or hotels. Not Enter- prise. It chose small ofﬁces, often simple storefronts, spread all over a metropolitan area, a practice that began when founder Jack Taylor started his tiny auto leasing business in St. Louis in 1957. But as the

20 UNDERSTANDING MICHAEL PORTER

Can You Be Differentiated and Low Cost at the Same Time?

Early in his career, Porter identiﬁed a set of generic strategies— focus, differentiation, and cost leadership—that quickly became one of the most widely used tools for thinking about key strategic choices. Each of the three reﬂects the most basic level of consis- tency that every effective strategy must have. Focus refers to the breadth or narrowness of the customers and needs a company serves. Differentiation allows a company to command a premium price. Cost leadership allows it to compete by offering a low relative price. These broad characterizations of strategy types capture the fundamental dimensions of strategic choice relevant in any industry. At the same time, Porter described a common strategic mistake, which came to be known as getting stuck in the middle. This hap- pens when a company tries to be all things to all customers and is outﬂanked by cost leaders on one side, who meet “just enough” of their customers’ needs, and by differentiators on the other side, who do a better job of satisfying customers who “want more” (of

some particular attribute they value).

company grew and its strategy emerged, so did the strategic logic. Nothing could be more inconvenient for a home-city renter than to have to go to the airport to pick up a car.

What began as an accident of early company history became a matter of strategic choice. For its chosen customer, Enterprise’s neighborhood locations, now within ﬁfteen miles of 90 percent of the

U.S. population, are more convenient. The rent was also lower, allow- ing Enterprise to charge lower prices than rivals. Only in 1995, more than thirty-ﬁve years after the company was founded, did Enterprise

Creating Value 21

Does this mean that a company can’t be both differentiated and low cost at the same time? Not at all, although this is another persistent misconception. Porter’s earliest work (circa 1980) is sometimes cited as evidence to the contrary. But Porter went on in the 1990s to reﬁne his work on the link between the value propo- sition and the value chain, work that should have put that misun- derstanding to rest. “When you get down to the speciﬁc needs that are served by speciﬁc products,” he explains, “you see that the possible choices/combinations are far more complex. Generic strategies identiﬁed one dominant theme of a strategy, such as relative cost. But effective strategies integrate multiple themes in a unique way. Customers’ needs are rarely uni-dimensional and therefore a strategy to meet those needs won’t be uni-dimensional either. When a company makes choices about which customers and needs it will serve, and when it tailors its value chain to those choices, it is possible to be differentiated and low cost and focused at the same time, as Enterprise is. Or, like Southwest, you can be more convenient and lower cost—without getting stuck in the middle.”

open its ﬁrst airport location. In the car rental business, it is easy to see that the optimal conﬁguration of ofﬁces is very different for trav- elers than for home-city renters.

In fact, positive-sum competition is possible precisely because there are a variety of ways to conﬁgure most activities. Zipcar is able to do away with ofﬁces entirely. Zipsters are paid members whose information is on ﬁle, eliminating all the usual paperwork of a rental transaction. Technology makes customer service staff unnecessary because Zipsters make reservations online. Zipcars are parked in des-

22 UNDERSTANDING MICHAEL PORTER

ignated spots spread throughout a metro area. Special access Zipcards with embedded wireless chips allow members to open the speciﬁc car they’ve reserved only at the speciﬁed rental time. Transponders on the windshield record hours of usage and mileage, which are directly com- municated to a central computer via a wireless link. Zipcar makes renting a car as easy as withdrawing cash from an ATM.

Other parts of the value chain are tailored as well. Every car rental company has to conﬁgure its ﬂeet of vehicles. Because vacation and business travelers often want special car models—SUVs or convert- ibles, for example—Hertz and Avis include these “hot” vehicles in their ﬂeets. Enterprise’s home-city renters are satisﬁed with lower- cost, more basic models. They are also less concerned with the age of a car, enabling Enterprise to keep its cars longer than the traveler-ori- ented companies. Zipcar is building its brand with a ﬂeet of “cool” cars like the environmentally friendly Honda Insight and the BMW Mini.

For Zipcar, the cars themselves, displaying the company’s hip logo, are like rolling billboards that announce the company’s brand to the neighborhood. Zipcar also attracts new customers through a raft of partnerships with schools and companies. In keeping with its value proposition, Enterprise tends to market to insurance companies and car dealerships, another important way in which its costs are kept low. In contrast, Hertz uses expensive consumer advertising to attract its business and leisure travelers.

When a company focuses on delivering a different kind of value to a different set of customers—for Porter, the essence of strategic positioning—the list of value chain differences can be extensive (see ﬁgure 4-3).

Limits Are Essential

Choices in the value proposition that limit what a company will do are essential to strategy because they create the opportunity to tailor

Creating Value 23

FIGURE 4-3

Each value proposition is best delivered by a tailored value chain

Hertz Enterprise Zipcar

Value proposition

Customer/need

Travelers away from home; rent by the day

Replacement cars at home; rent by the day

Cars for non-owners at home; rent by

the hour

Pricing

Premium: expense accounts or vacation travel

Economy: insurance or self-pay

Varies by usage: subscription plus hourly fee

Value chain choices

Airports, hotels, train stations ($$)

Consumer advertising ($$)

Ofﬁce locations	Throughout metro area, strip malls ($)	None (¢)
Fleet choices	Full range of late models	“Sensible” cars, older ﬂeet	“Cool” cars
Marketing	Market through body shops, insurers ($)	Word of mouth, partnerships with schools (¢)

activities in a way that best delivers that kind of value. Tailoring is possible only if there are limits, only if you are not trying to be all things to all people. In other words, limits make it possible to develop a value chain that is different from that of rivals who have chosen to offer a different kind of value.

Choices in the value proposition that limit what a company will do are essential to strategy because they create the opportunity to tailor activities in a way that best delivers that kind of value.

This is a crucially important test that should be applied to any strat- egy. If the same value chain can deliver different value propositions

24 UNDERSTANDING MICHAEL PORTER

Discovering New Positions: Where to Begin

“Strategic competition,” Porter writes, “can be thought of as the process of perceiving new positions that woo customers from estab- lished positions or draw new customers into the market.” In describing a strategy after the fact, the value proposition is the logi- cal place to begin, as I have done in this chapter. But how do com- panies, in practice, actually ﬁnd new positions? Looking for new ways to segment customers or to serve unmet needs is one starting point. But the value chain—the unique set of activities your com- pany performs—is an equally valid starting point. This, in fact, is essentially what companies do when they identify their “strengths.” Consider Grace Manufacturing, a small, family-owned company based in Arkansas. Grace is not a household name, but its leading product, the Microplane, is renowned among cooks as the tool of choice for grating hard cheeses and zesting citrus. The Microplane, followed by tens of line extensions, created a new segment in the

housewares industry.

How Grace discovered its position is an interesting story. The company was a contract manufacturer of steel printer bands, a product approaching obsolescence as printer technology advanced. Facing the imminent demise of its core product, Grace’s principal asset was a proprietary masking and etching process that produced

equally well, then those value propositions have no strategic rele- vance. Only a value proposition that requires a tailored value chain to deliver it can serve as the basis for a robust strategy. This is the ﬁrst line of defense against rivals.

Strategy, then, deﬁnes a way of competing, reﬂected in a set of activities that delivers unique value in a particular set of uses or for a

Creating Value 25

bands with razor-sharp edges. Chris Grace, now the company’s CEO, recalled working in the family business while he was in high school: “‘Back then, if you worked in the plant, it wasn’t a question of whether you were going to cut your ﬁnger, but when. We realized we were good at making sharp things. And so we thought, what can we make that’s sharp?’” They settled on tools for serious woodworkers. The Microplane brand rasp was designed to be mounted on a hacksaw frame. But somehow word got out that it made an extraor- dinary kitchen tool. Richard Grace, the company’s founder, was ini- tially disappointed when he heard how his product was being used. But today, the company makes a whole line of sharp products for the kitchen, from pizza cutters to chocolate graters. Moreover, leveraging its proprietary know-how in producing sharp things, Grace has added products for orthopedists that grind bone or pre- pare hip sockets for implants. Proprietary is a key word in this story.

Grace Manufacturing didn’t just have a strength in making sharp

things. Most essential for strategy, it had a unique strength.

Discovering new positions is a creative act. What triggers the ini- tial insight often varies from one person, and one organization, to the next. No cookbook or expert system can reliably churn out win- ning strategies. By deﬁnition, strategy is about creating something unique, making a set of choices that nobody else has made.

particular set of customers, or both. In most industries, there can be many strategically relevant value propositions. This simply reﬂects the great diversity in customers and needs, and the fact that different activity conﬁgurations are often required to meet those needs most effectively. Even when an industry produces something that looks like a homogenous product, Porter points to many opportunities up

26 UNDERSTANDING MICHAEL PORTER

and down the value chain for differentiation—in delivery, in disposal, in certiﬁcation and testing, and in ﬁnancing, to name just a few dimensions.

While not every single activity need be unique, robust strategies always involve a signiﬁcant degree of tailoring. To establish a compet- itive advantage, a company must deliver its distinctive value through a distinctive value chain. It must perform different activities than rivals or perform similar activities in different ways.

Thus the value proposition and the value chain—the two core dimensions of strategic choice—are inextricably linked. The value proposition focuses externally on the customer. The value chain focuses internally on operations. Strategy is fundamentally integrative, bringing the demand and supply sides together.

Chapter Notes and Sources

Chapter 4. Creating Value: The Core

The Porter quotes and concepts in this chapter, as well as his analysis of Southwest Airlines, come from “What Is Strategy?” reprinted in On Competition (2008). The graphic depicting the value proposition is Porter’s, derived from unpublished presentation materials.

Details of Southwest’s early pricing and its expansion come from Nuts!, cited earlier.

I have written about Walmart, Enterprise, Southwest, and Aravind in What Management Is (2002), and on Walmart in “Why Business Models Matter,” Harvard Business Review, May 2002.

For more on Aravind, see V. Kasturi Rangan, “The Aravind Eye Hospital, Madurai, India: In Service for Sight,” Case 9-593-098 (Boston: Harvard Busi- ness School, 2009).

My source for Progressive is John Wells, Marina Lutova, and Ilan Sender, “The Progressive Corporation,” Case 9-707-433 (Boston: Harvard Business School, 2008).

A good article on Enterprise is Carol Loomis, “The Big Surprise Is Enter- prise,” Fortune, July 14, 2006.

For Edward Jones, I have used David J. Collis and Michael G. Rukstad, “Can

You Say What Your Strategy Is?” Harvard Business Review, April 2008; and David

J. Collis and Troy Smith, “Edward Jones in 2006: Confronting Success,” Case 9- 707-497 (Boston: Harvard Business School, 2009).

My source for the history of Grace Manufacturing is John T. Edge, “How the Microplane Grater Escaped the Garage,” New York Times, January 11, 2011.

Trade-offs

The Linchpin

Michael Porter’s Strategy for Creating a Sustainable Competitive Advantage

Excerpted from

Understanding Michael Porter:

The Essential Guide to Competition and Strategy

Joan Magretta

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CHAPTER 5

Trade-offs:

The Linchpin

N THE LAST CHAPTER, I presented Porter’s ﬁrst two tests of strategy: a unique value proposition and the

tailored value chain required to deliver it. If there is one important takeaway message, it is that strategy requires choice. Competitive advantage depends on making choices that are different from those of rivals, on making trade-offs. This is Porter’s third test. Trade-offs play such a critical role that it’s no exaggeration to call them strategy’s linchpin. They hold a strategy together as they contribute to both cre- ating and sustaining competitive advantage.

The need to make trade-offs is yet another idea that runs counter to popular thinking, and it does so in two ways. The ﬁrst misconcep- tion is about trade-offs themselves. Managers tend to believe that “more is always better.” More customers, more products, more ser- vices mean more sales and proﬁts. You can have it all. You can do both A and B. If you choose either one or the other, you’ll be leaving money on the table. Making trade-offs is almost a sign of weakness.

The second misconception is about whether it is possible, in today’s supercharged, hypercompetitive world, to sustain a competitive

2 UNDERSTANDING MICHAEL PORTER

advantage. This is a world in which anything can and will be copied, a world in which the best you can hope for in competing is a series of very temporary advantages. Sound familiar? This is, once again, com- peting to be the best.

But think about it for a minute, and you’ll see that this argument fails to square with the facts. It’s true that choosing a unique value proposition alone is no guarantee of sustainability. If you ﬁnd a valuable position, imitators will take notice. But competitive advantages can and do persist for decades, as companies such as Southwest Airlines, IKEA, Walmart, Enterprise Rent-A-Car, BMW, McDonald’s, Apple, and many others attest. What do the strategies of such diverse companies as these have in common? The answer lies in just one word: trade-offs.

What Are Trade-offs?

Trade-offs are the strategic equivalent of a fork in the road. If you take one path, you cannot simultaneously take the other.

Whether the fork in the road is about the characteristics of the product itself or about the conﬁguration of activities in the value chain, a trade-off means that you can’t have it both ways because the choices are incompatible.

Trade-offs are the strategic equivalent of a fork in the road. If you take one path, you cannot simultaneously take the other.

Every airline, for example, must choose a route system. It can choose a hub-and-spoke conﬁguration that offers passengers the abil- ity to travel between many more destinations but at higher cost, or it

Trade-offs 3

can choose a point-to-point route system that sacriﬁces “ubiquity,” serving fewer destinations but doing so at lower cost. The choice is a stark either-or. An airline can choose one or the other, but it can’t choose both at once without creating inefﬁciencies.

Where there are trade-offs, products or activities are not just dif- ferent. They are inconsistent. One choice precludes or compromises the other. Competition is full of economic trade-offs. These lie at the very heart of strategy.

Consider Taiwan Semiconductor (TSMC), a semiconductor man- ufacturer with sales of about $9 billion (in 2009). While most entre- preneurs are known for coming up with new products or services, Morris Chang, the founder of Taiwan Semiconductor, built a com- pany by recognizing the value of a single, crucial trade-off. When he started TSMC in 1987, nearly all of the major semiconductor compa- nies were what the industry calls integrated device manufacturers (IDMs). That is, they designed and manufactured their own chips. Because the manufacturing facilities for chips are very expensive, if the IDMs had excess capacity, they would rent it out to smaller ﬁrms that couldn’t afford to build their own facilities. For the IDMs, the needs of these smaller companies were just an afterthought.

Dr. Chang knew that this situation posed a real dilemma for the smaller companies. On the one hand, they couldn’t afford their own capacity. On the other hand, by outsourcing production to the IDMs, they put at risk their most valuable asset, their intellectual property. They lived in fear that an IDM would steal their chip designs.

Morris Chang was willing to make a big trade-off. He would become a manufacturer for other chip designers. Period. Taiwan Semiconductor would not be in the business of designing its own chips. With that one crucial choice, Dr. Chang eliminated the con- ﬂict of interest. Instead of competing with his customers, he would simply manufacture for them. By so doing, he would create more

4 UNDERSTANDING MICHAEL PORTER

value for his customers. And, of course, this fundamental policy choice meant that TSMC had a different value chain than its rivals— its activities were different.

This trade-off was the source of TSMC’s competitive advantage. And remember that competitive advantage is not just something you’re good at, it’s something that’s reﬂected in your P&L. By focus- ing only on manufacturing, Morris Chang achieved lower relative costs (that is, his manufacturing costs were lower than those of rival IDMs). And because he offered intellectual property protection in addition to manufacturing, customers were willing to pay more for the added value he created.

Robust strategies typically incorporate multiple trade-offs. The very best have trade-offs at almost every step in the value chain. Consider IKEA, the Swedish home furnishings giant. IKEA’s value proposition is to provide good design and function at a low price. Its target customer is what IKEA calls the person “with a thin wallet.” In choosing its particular kind of value and the activities needed to deliver it, IKEA has accepted a set of limits: it does not meet all the needs of all customers.

In every major value-adding step in the process of creating and selling home furnishings, IKEA has made different choices from what I’ll call the “traditional” home furnishings retailer. Consider the following:

· Product design. IKEA’s furniture is modular and ready to assemble. The traditional retailer sells fully assembled pieces. That’s a critical either-or trade-off. Either a piece of furniture is fully assembled or it isn’t. Unlike most other companies in its industry, IKEA designs its own products; this choice then allows IKEA to make all kinds of critical trade-offs in styling and in the cost of everything it sells. IKEA’s designers are given very speciﬁc targets with clear constraints: design a coffee table

Trade-offs 5

for a given product line that will sell for $30. Here’s where you see some sharp trade-offs. You can have good design at low cost, but there is no way you can have, for example, a $30 cof- fee table made of birdseye maple, or a $40 chair made with the ﬁnest leather. IKEA’s designers are tasked with making clear trade-offs regarding each product.

· Product variety. Traditional retailers offer a wide range of fur- niture styles—from American colonial to French country to Ming dynasty. They offer customers hundreds of fabric choices. But both breadth and customization add costs. IKEA’s trade- off: carry a narrow style range, limited to Scandinavian and

its offshoots, and offer only a few choices of ﬁnishes and fab- rics. In turn, trade-offs that limit product complexity allow IKEA to source product in bulk from efﬁcient third-party man- ufacturers that produce on a global scale. Remember the ﬁve forces. IKEA is a Goliath, able to negotiate favorable prices from its suppliers.

· In-store service. Traditional retailers use sales associates to help customers with the hundreds of choices involved in fur- nishing a home. Sales associates, however, add cost. Here is another sharp trade-off, an either-or choice. Either you staff a store with sales associates or you don’t, but you can’t have it both ways. IKEA is explicit about this trade-off. It tells its cus- tomers that in exchange for serving themselves, they will be rewarded with lower prices. Even the store cafeteria reinforces this message. Signs explain that clearing your own table at the end of your meal allows the low price you paid at its start.

· Delivery and store design. Traditional furniture sellers have products shipped direct from a manufacturer or a warehouse to the customer’s home. IKEA explicitly “outsources” delivery to

6 UNDERSTANDING MICHAEL PORTER

its customers, again in exchange for lower prices. Its many trade-offs in store design and location make it easy (well, as easy as it can be) for you to serve yourself. When you see some- thing you like in one of IKEA’s many, many room displays, you write down the item number. As you leave the last display area and before you arrive at the checkout lines, you pass through a cavernous warehouse, its shelves stacked with ready-to-assem- ble furniture in ﬂat packs. You look for your item number, load the ﬂat pack onto IKEA’s specially designed shopping cart, and out you go to your car. IKEA chooses car-friendly locations (in the United States, never downtown) with ample free parking; it creates huge stores to display and stock every item (never small stores displaying only selected items).

· Flat packs and competitive advantage. Early in IKEA’s history, or so the story goes, an IKEA employee removed the legs of a table so that a customer could carry it home in his car. As the company tells it, this was one of those Eureka moments. If fur- niture were sold disassembled and in ﬂat packs, customers could “self-deliver.” In addition, the space-saving ﬂat packs massively lower the cost of logistics. IKEA can ﬁt six times the number of pieces into each truckload being delivered to its stores.

This insight ultimately became a source of competitive advantage; that is, it led to differences in the activities in IKEA’s value chain that resulted in lower costs than those of its rivals. Shipping costs for furniture in ﬂat packs are dramatically lower than those for assembled furniture. This allows IKEA to charge lower prices and still make a proﬁt.

Flat packs have other advantages. Customers who are willing to carry their purchases home and do their own assembly not

Trade-offs 7

only pay a lower price, but also get the furniture today, without waiting weeks for delivery, and with far less risk of shipping damage. This adds to IKEA’s cost advantage, and it enhances customer satisfaction. I’ve never forgotten the ﬁrst sofa I ever bought. After waiting six weeks for it to be delivered, it arrived with a big tear in the fabric. I spent hours arranging to have the sofa shipped back to the manufacturer, and another six weeks waiting for the replacement. Not a happy experience for me, and a costly one for the vendor.

An intriguing recent study has found a so-called IKEA effect: that self-assembly actually raises, not lowers, the price consumers would be willing to pay. Not bad when you can raise customer value and lower your own costs at the same time!

Now think about the cumulative impact of these differences in cost and value, all of them stemming from one trade-off: either you sell fully assembled furniture that has to be shipped, or you design it to be transported in ﬂat packs and assembled in-home by the cus- tomer. Porter is fond of saying that if you have a strategy, you should be able to link it directly to your P&L. This is an example of precisely that kind of linkage.

If you have a strategy, you should be able to link it directly to your P&L.

Tailored choices pervade IKEA’s value chain. And many of those choices about how to create its distinctive form of value are not just different from the choices its rivals make. They are incompati- ble—that is, a rival couldn’t copy what IKEA does without compro- mising or damaging the value it creates for its customers. These are

8 UNDERSTANDING MICHAEL PORTER

genuine either-or choices that allow IKEA to deliver on its value proposition—good design at low cost.

Why Do Trade-offs Arise?

Trade-offs arise for a number of reasons. Porter highlights three. First, product features may be incompatible. That is, the product that best meets one set of needs performs poorly in addressing others. IKEA’s huge stores are a nightmare for those who want to make a quick “in and out” purchase. BMW’s “ultimate driving machine” does not serve the needs of car buyers looking for cheap, basic transporta- tion. McDonald’s fast, cheap hamburgers are not very satisfying for locavores who want healthy, farm-fresh ingredients.

Second, there may be trade-offs in activities themselves. In other words, the conﬁguration of activities that best delivers one kind of value cannot equally well deliver another. You can bet that a plant designed to handle small lot sizes and custom products will be less efﬁcient for large production runs or standard products. A logistical system geared to deliver once per hour is not the best one to deliver once per week. And so on. Trade-offs like these have economic conse- quences. If an activity is either overdesigned or underdesigned for its use, value will be destroyed. If you’ve had the pleasure of being served by a concierge at a Four Seasons hotel, you know that the company designs this “activity” to provide guests with a high level of assistance. It costs money to create this kind of value, hiring and training the right kind of person. If you put that same concierge in a setting where some guests require little or no assistance, then some of the cost that went into creating that high level of service would be wasted.

Another source of trade-offs is inconsistencies in image or reputa- tion. Can you imagine, for example, the Italian sports car maker

Trade-offs 9

Ferrari introducing a minivan? Companies have occasionally been blinded to such inconsistencies in image by their zeal to expand. For decades, the retailer Sears built a reputation as the place to buy qual- ity tools and appliances. When it acquired broker Dean Witter and tried to sell investment products as well as power saws, customers just couldn’t reconcile the new image of Sears with the old. The result was one of the more spectacular failures in the history of cor- porate expansion. At best, inconsistencies like these confuse cus- tomers. At worst, they undermine the company’s credibility and reputation.

Trade-offs, then, arise for many reasons. They are pervasive in competition. They make strategy possible by creating the need for choice.

Real Trade-offs Keep Imitators at Bay

If you are successful and competitors aren’t asleep at the switch, they will try to copy what you do. But trade-offs will get in their way. By their very nature, trade-offs are choices that make strategies sustainable because they are not easy to match or to neutralize. If there are no trade-offs, any good idea can be copied. Product features can be copied. Services can be copied. Ways of delivering value can be copied. But where there are trade-offs, the copycat will pay an economic penalty.

Not-So-Fast Food

McDonald’s, a market leader in fast food, built its positioning around speed and consistency. Everything in its value chain is tai- lored to deliver that value proposition. But in the late 1990s,

10 UNDERSTANDING MICHAEL PORTER

McDonald’s had a growth problem. Coming off a series of failed product launches and facing market saturation, McDonald’s decided that it needed to match rivals Burger King and Wendy’s by offering customers the option to customize their menu options (for example, a burger without the pickles). The company introduced its “Made for You” campaign, which involved expensive refurbishing of the kitchens at all its restaurants. The total bill was estimated at close to half a billion dollars.

But “Made for You” came with other costs as well. Customized food preparation takes more time, and the greater the customiza- tion, the more difﬁcult it is to achieve consistency. If you’re starting to think that each of these outcomes—speed, consistency, customization—involves trade-offs, you’re paying attention. More customization equals less speed and less consistency. Moreover, preparing each order at the time of purchase deprived restaurants of the ability to stock up for the busy lunch hour. Beleaguered fran- chises found themselves between a rock and a hard place: they could take a proﬁt hit by hiring extra workers to staff the kitchens, or they could risk irritating customers with long waits. McDonald’s learned about trade-offs the hard way. It couldn’t copy Burger King’s strategy without messing up its own.

Porter calls what McDonald’s tried to do straddling, and it is the most common form of competitive imitation. The straddler, as the word implies, tries to match the beneﬁts of the successful position while at the same time maintaining its existing position. In other words, a straddler tries to have it all, to get the best of two worlds by grafting new features, services, or technologies onto the activities it already performs. Strategy is an either-or realm; the straddler thinks it can escape into a world of both-and. This usually turns out to be wishful thinking.

Trade-offs 11

Movies: Direct Versus Retail

The more common outcomes are cases like Blockbuster. The largest operator of video rental stores in the United States, Blockbuster was threatened by the growing success of Netﬂix, whose subscribers ordered movies online for home delivery via mail, and, as the technol- ogy evolved, via direct download as well. These are two different value propositions requiring two different value chains, with signiﬁ- cant trade-offs. Netﬂix’s 50-plus regional warehouses, backed by a state-of-the art distribution system, could supply a wider library of ﬁlms than Blockbuster’s 5,000-plus local stores. Blockbuster tried— and failed—to have it both ways, adding Netﬂix’s value proposition on top of its own. Trade-offs impose real economic penalties for com- panies that try to compete in two ways at once.

Straddling in the Skies

When British Airways (BA) set out to defend its turf against the rising tide of budget carriers, it had the advantage of hindsight. Most recently, there had been several notable straddling ﬁascos in the industry, including Continental Airlines’ attempt to be full service on some routes and low cost on others. Competing in two ways at once turned out to be too expensive and too complicated.

British Airways took this lesson to heart: if you’re going to occupy two distinct positions in the same business, the only way to bypass the trade-offs is to create a separate organization with the freedom to choose its own, tailored value chain. BA’s experience shows that even when you do that, it is still a very hard act to pull off.

Its new subsidiary, Go Fly, was allowed to establish an indepen- dent identity, with its own management team, branding, and route

12 UNDERSTANDING MICHAEL PORTER

The Cost/Quality Trade-off: True or False?

“You get what you pay for” is a phrase that captures one of the oldest and most fundamental trade-offs in business thinking: to create higher quality, you need to incur higher costs; conversely, if you cut costs, you will reduce quality. This was an obvious and eternal truth . . . until, that is, it was seemingly shown to be false by the quality movement in the 1980s and 1990s. That movement, with its rallying cry “Quality Is Free,” ﬁrst took hold in Japan and then spread to the rest of the world. Company after company found that they could reduce costs and improve quality at the same time. It appeared to many that a funda- mental trade-off could be broken.

Can you have high quality and low cost at the same time? Is qual- ity free? Porter calls this a “dangerous half-truth.” The answer is “Yes, but.” Yes, quality is free when higher quality means eliminat- ing defects and waste. There you are dealing with a false trade-off, one that should be broken. In general, false trade-offs arise when organizations fall behind in operational effectiveness—that is, when they lag in how well they perform basic activities, the kind of activities that are generic and not strategy speciﬁc. Thus, in the 1990s, Lexus was able to offer “more luxury” than Cadillac at a lower price because General Motors had fallen so far behind the current state of best practice. Today, in U.S. health care, where I believe there is great opportunity to improve medical outcomes and reduce costs at the same time, the slogan “Quality Is Free” might serve as a useful wake-up call.

It is also the case that innovations come along and render old trade-offs obsolete. Innovations such as new technologies and new management practices can result in both lower cost and improved

Trade-offs 13

performance. But only when such innovations change the game—or when a company is lagging in efﬁciency to begin with—is it true that quality is free.

Once companies achieve parity in execution, however, they face real trade-offs. Then, adding “quality” usually means adding new features, using better materials, or offering greater service. In a pas- senger car, for example, it might mean upgrading from cloth seats to leather, or adding a global positioning system. Quality in that sense of the word is deﬁnitely not free. It almost always costs more to add signiﬁcant product features, improve service, provide better sales assistance, or deliver other enhancements. Here the trade-offs are real and binding.

Let’s be clear. This is not to say that a value proposition built around low price cannot simultaneously offer some other dimen- sions of customer value. IKEA’s design, one particular kind of qual- ity, happens to be consistent with low costs as long as IKEA controls the costs of raw materials, manufacturing, and logistics. South- west’s convenience, another kind of quality, is also consistent with low costs. Frequent departures actually enhance Southwest’s cost advantage, allowing for better utilization of planes and ground crews. And those convenient, frequent departures are themselves made possible by the many low-cost practices (no assigned seats, no baggage transfers) that allow Southwest to have fast gate turn- arounds. Southwest cleverly stresses this type of quality, making a virtue of the trade-offs it has made. However, other dimensions of airline quality—an assigned seat, more legroom, a meal served on china—carry a real price tag.

When managers focus on execution, on making sure that they are “best practice” when it comes to generic activities, then

14 UNDERSTANDING MICHAEL PORTER

eliminating trade-offs can be a good thing. When it comes to strat- egy, however, trade-offs are essential in making what you do unique. Finding trade-offs—IKEA’s insight about the value of ﬂat packs, for example—is essential to creating strategy. Maintaining and steepening trade-offs, making them even sharper, is essential to sustaining strategy.

network. Nonetheless, BA got caught on some of the same trade-offs as its American counterparts, muddling its premium reputation and confusing customers. Go’s original advertising slogan was “the new low-cost airline from British Airways.” Go selected airports closer to major cities than competitors like Ryanair, airports that were more crowded and more prone to delays. Also unlike most low-fare airlines, it gave passengers seat assignments and contracted food service to a high-end catering outﬁt.

After racking up somewhat-higher-than-expected losses, BA decided that running a low-cost airline was inconsistent with its positioning as a premium carrier. It sold Go to private equity ﬁrm 3i. Free from BA, Go launched an aggressive advertising campaign explicitly targeting BA cus- tomers. Only a year later, 3i was able to sell a larger Go to low-cost rival EasyJet at four times the price it had paid for the company.

Trade-offs make it tough for would-be straddlers. But straddling isn’t the only way one company can copy another. Repositioning is another. When a company’s existing position is no longer viable, it may try to reposition itself by copying someone else’s strategy in its entirety. This is obviously hard to do—you have to build a new repu- tation and a new set of supporting activities and skills, and you also have to dismantle the old. Not surprising, repositioning of this sort is rare, as well it should be. A repositioner effectively chooses to run the same race as a rival who has a giant head start.

Trade-offs 15

Home Improvement: Men Versus Women

Lowe’s took a more strategic path when it recognized that it needed a new positioning. Home improvement retailing is a category made famous by the spectacular success of Home Depot in the 1980s and 1990s. Home Depot’s original value proposition was this: it offered do-it-yourselfers, mainly men, the materials and the advice they needed to accomplish home improvements at low prices relative to the existing alternatives of hiring a contractor or buying from hard- ware stores. Home Depot offered the widest selection of items in huge, warehouse-style stores that averaged over 130,000 square feet. Its well-trained associates, many of whom were former trades people, provided advice and helped shoppers navigate the huge stores. The company appealed not only to do-it-yourselfers but also to smaller contractors. Both were attracted to Home Depot’s merchandise assortment and low prices.

Home Depot’s value proposition was so attractive, and its compet- itive advantage was so great, that many of the industry incumbents, typically regional chains with stores of between 20,000 and 30,000 square feet, were driven out of business. By 1988, Lowe’s, then the largest do-it-yourself home improvement chain in the United States, could see the handwriting on the wall. Without a new strategy, it would become another casualty of Home Depot’s success.

To address Home Depot’s lower prices, Lowe’s copied its larger store format. At the same time, however, Lowe’s discovered a need that Home Depot wasn’t meeting, which became the basis for a dis- tinctive strategy. From surveying thousands of customers, Lowe’s learned that women, not men, are the driving force for major home improvement projects, especially those involving design and fashion. That insight became the basis for Lowe’s new value proposition.

Concentrating on women’s needs gave rise to a number of trade- offs in product assortment and merchandising. Lowe’s places greater

16 UNDERSTANDING MICHAEL PORTER

emphasis on home fashion, kitchen, lawn and garden, decorating items, and consumer appliances—in line with its appeal to women. Lowe’s aims to be price competitive with Home Depot on common items but to offer a higher proportion of unique and fashion items with better margins.

Trade-offs are choices that make strategies sustainable because they are not easy to match or to neutralize.

Instead of displaying piles of merchandise on palettes and racks, as Home Depot does, Lowe’s created displays of kitchens, window treatments, and other items as they would appear in the home. This trade-off was less space efﬁcient, but better suited to its target cus- tomers. Moving away from the warehouse ambience, Lowe’s stores have lower ceilings, brighter lighting, and more attractive shelving. To keep its store format geared to its value proposition, Lowe’s has made another important trade-off: it serves contractors through a separate division with separate and different facilities.

As a result of these decisions about assortment and the shopping experience, Lowe’s stores must be restocked more frequently and in smaller quantities than Home Depot’s—another important trade-off that has cost consequences. Each company has its own tailored approach to replenishing merchandise for its stores. The point is that Lowe’s didn’t try to copy everything from Home Depot. It carved out a different positioning, with a different value chain. Some customers and needs are better served by Lowe’s. Some are better served by Home Depot. What makes both strategies robust are the many trade- offs required to carry them out. Lowe’s achieves its competitive

Trade-offs 17

advantage through choices that are incompatible with Home Depot’s, and vice versa.

In the early 2000s, Lowe’s, starting from a smaller base, grew faster in sales and earnings. Some analysts were quick to proclaim Lowe’s “the winner.” For Porter, this was precisely the kind of destructive, zero-sum thinking that gets in the way of companies when they try to compete on uniqueness. Home Depot was having some performance problems at the time, but those were caused by poor store execution, not by poor strategy.

Lowe’s was smart enough to copy the one element of Home Depot’s success that had become vital for anyone in that industry, but it was also smart enough to stake out its own unique positioning. There was room for both companies to thrive, each pursuing its own path. Yet more recently, Home Depot has been copying Lowe’s, adding, for example, a home décor line by Martha Stewart to appeal to women. Imitation that undermines key trade-offs—as this kind of move has the potential to do if carried too far—also undermines competitive advantage.

Choosing What Not to Do

Trade-offs make choices about what not to do as important as choices of what to do. Deciding which needs to serve and which products to offer is absolutely key to developing a strategy. But it is just as impor- tant to decide which needs you will not serve, and which products, features, or services you won’t offer. And then comes the hard part— sticking to those decisions.

Companies tend over time to add functions and features to their products, hoping this will broaden their customer base and increase sales. The “more is better” psychology is hard to resist. The argu- ments that lead to feature creep are all too familiar: the incremental

18 UNDERSTANDING MICHAEL PORTER

cost of adding a feature is minimal; we need the revenue growth; we have to match what our rivals are offering; our customers are telling us this is what they want. (For nonproﬁts, “mission creep”—off-target projects undertaken to please big donors or staff—is the analogous problem.)

This is the slippery slope that leads to competition to be the best.

When you try to offer something for everyone, you tend to relax the trade-offs that underpin your competitive advantage.

Wherever you ﬁnd an organization that has sustained its competitive advantage over a period of many years, you can be sure that company has defended its key trade-offs against numerous onslaughts.

When you try to offer something for everyone, you tend to relax the trade-offs that underpin your competitive advantage.

Often that onslaught takes the form of a new trend sweeping the industry. In the 1950s, a wave of new technology—microwaves, ﬂash freezing, artiﬁcial ﬂavorings—transformed the food industry. In-N- Out Burger, the purveyor of fresh food, freshly prepared, decided to take a pass on the latest food fads. As McDonald’s and others switched to frozen beef patties, Harry Snyder (In-N-Out’s founder) took the opposite fork in the road. He actually hired his own butcher to provide a reliable source of fresh beef.

In the late 1990s, nearly every brokerage ﬁrm rushed into online trading. No one wanted to be left behind. No one, that is, except Edward Jones, the retail brokerage we described in chapter 4. Edward Jones has built a distinct strategy around long-term relationships with conservative investors of modest means, a type of customer often ignored by the industry. We saw that Edward Jones built a dense

Trade-offs 19

network of retail ofﬁces because its chosen customer wants a face-to- face relationship with an individual, not an unfamiliar voice at a call center. Beyond personal attention, Jones understands that its particu- lar customers value simple, conservative ﬁnancial products combined with a steady, low-risk, buy-and-hold approach to investing.

During the boom years of the 1990s, there was intense industry and media pressure—and pressure from Jones’s own brokers—to add Internet trading. The ﬁrm was criticized for being behind the times. But the management team (Jones is one of the last remaining partner- ships in the industry) held its ground, having learned from Porter to appreciate the power of trade-offs. Internet trading, despite its media coronation as “the next big thing,” was completely inconsistent with Jones’s focus on face-to-face relationships and long-term investing.

Today, you can go to the Edward Jones Web site and you will ﬁnd a tab with the title “When We Say No.” It lays out what Edward Jones does not do: It doesn’t serve high rollers and day traders. It doesn’t sell derivatives, commodities, or penny stocks. It doesn’t offer online trading because that “encourages rash decision making.” It tells prospective clients it wants investors, not gamblers. Trade-offs like these are never easy. Make no mistake, Edward Jones has left money on the table. But at the same time, it has mastered what Porter calls one of the great paradoxes about trade-offs in competition. Executives often resist making trade-offs for fear they will lose some customers. The irony is that unless they make trade-offs and deliber- ately choose not to serve all customers and needs, then they are unlikely to do a good job of serving any customers and needs.

Clarity about what you won’t do, then, is the best way to succeed at what you do choose to do. It is only by being deliberately unrespon- sive to some needs, by embracing strategic trade-offs, that companies can be genuinely responsive to other needs. Put another way, the role of trade-offs in strategy is deliberately to make some customers

20 UNDERSTANDING MICHAEL PORTER

unhappy. Southwest Airlines tells a great story of how its legendary CEO, Herb Kelleher, dealt with a very frequent ﬂyer they called the “Pen Pal” because she wrote so many complaint letters. First, think about the many trade-offs essential to Southwest’s strategy. No assigned seats. No ﬁrst class. No meals. No planes other than 737s. No baggage transfer. And so on. The Pen Pal complained about almost every choice Southwest makes. After sending numerous polite responses to her many letters, the customer relations people had run out of ideas. They asked Herb if he would reply. It didn’t take him long to write the following:

“Dear Mrs. Crabapple, We will miss you. Love, Herb.”

Herb Kelleher stories are often entertaining, but they are usually instructive as well. Building and sustaining competitive advantage means that you must be disciplined about saying no to a host of initia- tives that would blur your uniqueness. The notion that the customer is always right is one of those half-truths that can lead to mediocre performance. Trade-offs explain why it is not true that you should give every customer what he or she wants. Some of those customers are not your customers, and you should send them packing, ideally with the same ﬂair and humor that came naturally to Kelleher.

Or, as Porter puts it, “Strategy is making trade-offs in competing.

The essence of strategy is choosing what not to do.”

Chapter Notes and Sources

Chapter 5. Trade-offs: The Linchpin

This chapter draws on unpublished research on McDonald’s, British Airways’ Go Fly, Home Depot, and Lowe’s done by Andrew Funderburk, an alumnus of Porter’s Institute for Strategy and Competitiveness. See also Stephanie Clifford, “Revamping, Home Depot Woos Women,” New York Times, January 28, 2011.

Porter’s analysis of IKEA comes from “What Is Strategy?” reprinted in On Competition (2008). For the research showing that people value more highly something they build themselves, see Michael I. Norton, Daniel Mochon, and Dan Ariely, “The ‘IKEA Effect’: When Labor Leads to Love,” working paper 11-091, Harvard Business School, Boston, 2011.

22 UNDERSTANDING MICHAEL PORTER

I ﬁrst learned about In-N-Out Burger from Youngme Moon’s Different: Escaping the Competitive Herd (New York: Crown Business, 2010). The com- pany’s history is nicely told by Stacy Perman, In-N-Out Burger: A Behind-the- Counter Look at the Fast-Food Chain That Breaks All the Rules (New York: Harper Collins, 2009).

9 – 715 – 456
R E V : O C T O B E R

8 , 2 0 1

D A V ID B . Y O F F IE

ER I C BA LD W I N

Apple Inc. in 20

On March 9, 2015, Apple‘s CEO, Tim Cook, announced the Apple Watch, his first major strategic
initiative following the tragic death of Steve Jobs, his mentor and predecessor. Jobs, of course was a
legend: he had changed Apple from a company on the verge of bankruptcy to one of the largest and
most profitable companies in the world. Four years later, Cook was trying to demonstrate that he could
not only sustain Apple‘s achievements in computers, MP

players, phones, and tablets, but he could
also take Apple to the next level.

By almost any measure, Apple‘s performance in the prior decade had been stellar. As 2015 opened,
Cook had reason to celebrate his own accomplishments. In the final quarter of 2014, Apple posted
record profits of $18 billion, the largest quarterly profits in corporate history (see Exhibit 1). Spurred
by the release of the iPhone 6, the iPhone shattered sales records, selling 74.5 million units in the 201

holiday quarter. Sales were particularly robust in China, the world‘s largest smartphone market.

The company‘s momentum and stock performance was undeniable (see Exhibit 2). But there were
also challenges in 2015. Smartphone competition was intense, especially in China, where new low-cost
competitors such as Xiaomi were taking the market by storm. iPod sales had been falling for seven
straight years. Even though Macintosh sales had grown faster than the industry in recent years, Apple‘s
share of worldwide PCs remained in single digits. Worse, the iPad had suffered a significant decline in
sales, down 22% from Q4 in 2013. With sales of the iPod and iPad slipping, and those of the Mac
remaining relatively small, Apple was increasingly dependent on the iPhone, which accounted for 69%

of its revenue.1

The announcement of the Apple Watch led many to ponder whether Cook would successfully
transition Apple to ―his‖ company, or whether Apple would still live off of Steve Jobs‘s legacy? Would
the Apple Watch be another home run, similar to the iPhone, or would it become another niche product,
like Apple TV? Cook had big shoes to fill, and he had to wonder: Had he made the right strategic moves
to deliver on Apple‘s daunting ambitions?

Professor David B. Yoffie and Research Associate Eric Baldwin prepared this case. This case derives from earlier cases, inclu ding: ―Apple Inc.,
2008,‖ HBS No. 708-480, by Professor David B. Yoffie and Research Associate Michael Slind, ―Apple Computer, 2006,‖ HBS No. 706-496 by
Professor David B. Yoffie and Research Associate Michael Slind, ―Apple Inc. in 2010,‖ HBS No. 710-467 by Professor David B. Yoffie and Research
Associate Renee Kim, and “Apple Inc. in 2012,” HBS No. 712-490, by Professor David B. Yoffie and Research Associate Penelope Rossano. This case
was developed from published sources. Funding for the development of this case was provided by Harvard Business School and not by the
company. Professor Yoffie serves as a director of HTC and Intel. HBS cases are developed solely as the basis for class discus sion. Cases are not
intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management.

Copyright © 2015 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685,
write Harvard Business School Publishing, Boston, MA 02163, or go to www.hbsp.harvard.edu. This publication may not be digitized, photocopied,
or otherwise reproduced, posted, or transmitted, without the permission of Harvard Business School.

http://www.hbsp.harvard.edu/

715-456 Apple Inc. in 2015

Apple’s History

Steve Jobs and Steve Wozniak, a pair of 20-something college dropouts, founded Apple Computer

on April Fool‘s Day, 1976.2 Working out of the Jobs family garage in Los Altos, California, they built a
computer circuit board that they named the Apple I. Within several months, they had made 200 units
and had taken on a new partner—A.C. ―Mike‖ Markkula Jr., who was instrumental in attracting
venture capital as the experienced businessman on the team. Jobs‘s mission was to bring an easy-to-
use computer to market, which led to the release of the Apple II in April 1978. It sparked a computing

revolution that drove the PC industry to $1 billion in annual sales in less than three years.3 Apple
quickly became the industry leader, selling more than 100,000 Apple IIs by the end of 1980. In
December 1980, Apple launched a successful IPO.

Apple‘s competitive position changed fundamentally in 1981 when IBM entered the PC market. The
IBM PC, which used Microsoft‘s DOS operating system (OS) and a microprocessor (also called a CPU)
from Intel, was a relatively ―open‖ system that other producers could clone. Apple, on the other hand,
practiced horizontal and vertical integration. It relied on its own proprietary designs and refused to
license its software to third parties. IBM PCs not only gained more market share, but also emerged as
the new standard for the industry. Apple responded by introducing the Macintosh in 1984. The Mac
marked a breakthrough in ease of use, industrial design, and technical elegance. However, the Mac‘s
slow processor speed and lack of compatible software limited sales. Apple‘s net income fell 6

between 1981 and 1984, sending the company into a crisis. Jobs, who was often referred to as the ―soul‖
of the company, was forced out in 1985.4 The boardroom coup left John Sculley, the executive whom
Jobs had recruited from Pepsi-Cola, alone at the helm.

The Sculley Years, 1985–1993

Sculley pushed the Mac into new markets, most notably in desktop publishing and education.
Apple‘s desktop market was driven by its superior software, such as Aldus (later Adobe) PageMaker,
and peripherals, such as laser printers. In education, Apple grabbed more than half the market. Apple‘s
worldwide market share recovered and stabilized at around 8% (see Exhibit 3). By 1990, Apple had $1
billion in cash and was the most profitable PC company in the world.

Apple offered its customers a complete desktop solution, including hardware, software, and
peripherals that allowed them to simply ―plug-and-play.‖ Apple also stood out for typically designing
its products from scratch, using unique chips, disk drives, and monitors. IBM compatibles narrowed
the gap in ease of use in 1990 when Microsoft released Windows 3.0. Still, as one analyst noted, ―[T]he
majority of IBM and compatible users ‗put up‘ with their machines, but Apple‘s customers ‗love‘ their
Macs.‖5

Macintosh‘s loyal customers allowed Apple to sell its products at a premium price. Top-of-the-line
Macs went for as much as $10,000, and gross profit hovered around an enviable 50%. However, as IBM-
compatible prices dropped, Macs appeared overpriced by comparison. As the volume leader, IBM
compatibles were also attracting the vast majority of new applications. Moreover, Apple‘s cost
structure was high: Apple devoted 9% of sales to research and development (R&D), compared with 5%
at Compaq, and only 1% at many other IBM-clone manufacturers. After taking on the chief technology
officer title in 1990, Sculley tried to move Apple into the mainstream by becoming a low-cost producer
of computers with mass-market appeal. For instance, the Mac Classic, a $999 computer, was designed
to compete head-to-head with low-priced IBM clones.

Sculley also chose to forge an alliance with Apple‘s foremost rival, IBM. They worked on two joint
ventures, one to create a new PC OS and one aimed at multimedia applications. Apple undertook

Apple Inc. in 2015 715-45

another cooperative project involving Novell and Intel to rework the Mac OS to run on Intel chips that
boasted faster processing speed. These projects, coupled with an ambition to bring out new ―hit‖
products every 6 to 12 months, led to a full-scale assault on the PC industry. Yet Apple‘s gross margin
dropped to 34%, 14 points below the company‘s 10-year average. In June 1993, Sculley was replaced
by Michael Spindler, the company‘s president.

The Spindler and Amelio Years, 1993–199

Spindler killed the plan to put the Mac OS on Intel chips and announced that Apple would license
a handful of companies to make Mac clones. He tried to slash costs, which included cutting 16% of
Apple‘s workforce, and pushed for international growth. Despite these efforts, Apple lost momentum:
a 1995 Computerworld survey found that none of the Windows users would consider buying a Mac,
while more than half the Apple users expected to buy an Intel-based PC6 (see Exhibit 4 for shipments
of PC microprocessors). Spindler, like his predecessor, had high hopes for a revolutionary OS that
would turn around the company‘s fate. But at the end of 1995, Apple and IBM parted ways on their
joint ventures. After spending more than $500 million, neither side wanted to switch to a new

technology.7 Following a $69 million loss in Apple‘s first fiscal quarter of 1996, the company appointed
another new CEO, Gilbert Amelio, an Apple board member.8 Amelio proclaimed that Apple would
return to its premium-price differentiation strategy, but Macintosh sales continued to fall. In December
1996, Amelio announced the acquisition of NeXT Software (founded by Jobs after he left Apple) and
plans to develop a new OS based on NeXT. Jobs also returned to Apple as a part-time adviser. Despite
more restructuring efforts, Apple lost $1.6 billion under Amelio (see Exhibit 3). At one point, insiders
believed that Apple was within 90 days of bankruptcy. To save the company, Jobs became the
company‘s interim CEO in September 1997.

Steve Jobs and the Apple Turnaround

Jobs moved quickly to reshape Apple. In August 1997, Apple announced that Microsoft would
invest $150 million in Apple and make a five-year commitment to develop core products, such as
Microsoft Office, for the Mac. Jobs abruptly halted the Macintosh licensing program. Almost 99% of

customers who had bought clones were existing Mac users, cannibalizing Apple‘s profits.9 Apple‘s 15
product lines were slashed to just four categories—desktop and portable Macintoshes, for consumers
and professionals. Tim Cook, hired by Jobs in 1998 after a career in operations at Compaq and IBM,
was credited with streamlining Apple‘s supply chain. In addition, Apple launched a website to set up
direct sales for the first time. Internally, Jobs focused on reinvigorating innovation. Apple pared down
its inventory significantly and increased its spending on R&D (see Exhibit 5 for PC manufacturers‘ key
operating measures).

Jobs sought to bring a new culture to Apple. While previous CEOs sought to broaden Apple‘s
products, Jobs believed deeply in focus. Apple had one of the narrowest product lines of any company
of comparable size. Jobs also believed in extreme practices of secrecy, including a ―closed door policy‖
in which key cards accessed only certain areas, and dummy positions for new hires until they could be
trusted. Everyone knew that violation of Apple‘s culture of confidentiality was grounds for
termination.10 Employees reported that working with Jobs was rewarding, but often difficult. Jobs
noted that ―I don‘t think I run roughshod over people, but if something sucks, I tell people to their
face.‖11 Jobs was especially fanatic about industrial design, simplicity, and product elegance.

This approach led to Jobs‘s first real coup—the iMac—introduced in August 1998. The $1,299 all-in-
one computer featured colorful translucent cases with a distinctive eggshell design. The iMac also
supported ―plug-and-play‖ peripherals, such as printers, that were designed for Windows-based

715-456 Apple Inc. in 2015

machines for the first time. Thanks to the iMac, Apple‘s sales outpaced the industry‘s average for the
first time in years. Following Jobs‘s return, Apple posted a $309 million profit in its 1998 fiscal year,
reversing the previous year‘s $1 billion loss.

Another priority for Jobs was to break away from Apple‘s tired, tarnished image. Jobs wanted
Apple to be a cultural force. Not coincidentally, perhaps, Jobs retained his position as CEO of Pixar, an
animation studio that he had bought in 1986. (Jobs sold Pixar to Walt Disney for $7.4 billion in 2006.)
Through multimillion-dollar marketing campaigns such as the successful ―Think Different‖ ads and
catchy slogans (―The ultimate all-in-one design,‖ ―It just works‖), Apple promoted itself as a hip
alternative to other computer brands. Later on, Apple highlighted its computers as the world‘s

―greenest lineup of notebooks‖ that were energy efficient and used recyclable materials.12 The goal was
to differentiate the Macintosh amid intense competition in the PC industry.

The Personal Computer Industry

While Apple pioneered the first usable ―personal‖ computing devices, it was IBM that brought PCs
into the mainstream in the 1980s. But by the early 1990s, a new standard known as ―Wintel‖ (the
Windows OS combined with an Intel processor) dominated the industry. Thousands of
manufacturers—ranging from Dell Computer to no-name clone makers—built PCs around standard
building blocks from Microsoft and Intel. Growth was driven by lower prices and expanding
capabilities. The overall industry continued to boom through the early 2000s, propelled by Internet
demand and emerging markets such as China. By 2013, emerging markets accounted for nearly 58% of

PC shipments.13 Growth in PC shipments started to slow after 2005 and tipped over into a 4% decline
in 2012, followed by a drop of 10% in 2013, and 2.1% in 2014. Total PC shipments slipped to 308.7
million in 2014.

Slowing revenue growth followed the slowdown in volume. Despite PCs that were faster, with
more memory and storage, average selling prices (ASPs) declined by a compound annual rate of 8%–
10% per year from the early 1990s through 2005.15 The rate of decline in ASPs lessened between 2006

and 2014 to a compound annual rate of 2%.16 By 2014, the average profit margin for the major PC
manufacturers was under 3%.17 The standardization of components led PC makers to cut spending on

R&D to between 1% and 3% of revenue (see Exhibit 5).18 As contract manufacturing in Taiwan and
China became popular, Asian firms took over responsibility for more innovations, such as industrial
designs. The largest segment of the PC industry was laptop computers, which represented 56% of
shipments in 2014.19 The growth in demand for laptops was linked to lower prices: the ASP for a

portable PC had fallen to roughly $700.

Buyers and Distribution

PC buyers fell into five categories: home, small and medium-sized business (SMB), corporate,
education, and government. Home consumers represented the biggest segment, accounting for nearly
half of worldwide PC shipments.21 While all buyers cared deeply about price, home consumers also
valued design, mobility, and wireless connectivity; business consumers balanced price with service
and support; and education buyers depended on software availability. In distribution, a significant
shift occurred in the early 1990s when more knowledgeable PC customers moved away from full-
service dealers that primarily sold established brands to business managers. Instead, larger enterprises
bought directly from the manufacturer, while home and SMB customers started to buy PCs through
superstores (Walmart, Costco), electronics retailers (Best Buy), and web-based retailers. At the same
time, the so-called ―white-box‖ channel—which featured generic machines assembled by local

Apple Inc. in 2015 715-456

entrepreneurs—represented a large channel for PC sales, especially in emerging markets. White-box
PCs reportedly represented about 30% of the overall market in 2009, and by 2012, white-box PCs

accounted for half of all desktop PCs sold in China.

PC Manufacturers

The three top PC vendors—Lenovo, Hewlett-Packard, and Dell, accounted for 51.1% of worldwide
shipments in 2014 (see Exhibit 3 for PC manufacturers‘ market shares). Industry leadership had shifted
numerous times in the prior three decades, with Lenovo supplanting Hewlett-Packard (HP) as the
market leader in early 2014. China-based Lenovo vaulted into the front ranks of PC vendors in 2005
when it acquired IBM‘s money-losing PC business for $1.75 billion. The upward trend continued
through 2014 when Lenovo‘s worldwide share grew to 19.2%.23 Lenovo‘s greatest strength was its
dominant position in China, the fastest-growing PC market in the world, where it commanded a 35%
share.24 Following a rough period after the acquisition of Compaq Computer in 2002, HP outsourced
most of its production to Asia and dramatically lowered its costs. But HP‘s attempt to maintain PC
leadership came at a high price: after 2005, HP market share eroded, margins declined, and the board

fired three CEOs.25 HP proposed spinning off PCs in 2011, recanted, then decided again to break up
the company. HP held the number-two position in worldwide shipment market share at 17.1%.

Dell held the third-largest market share, with 13.5% of worldwide PC shipments for 2014.27 Its
distinct combination of direct sales and build-to-order manufacturing was popular in the corporate
market for a decade. Yet when a boom in retail consumer PCs outpaced corporate sales, Dell was late
to catch on. Founder Michael Dell returned as CEO in January 2007 and emphasized consumer-friendly
products, reentered retail distribution, and pushed for international expansion. Still, Dell struggled
with cost controls and poor margins. Faced with a declining share price and investor discontent,

Michael Dell took the company private in a $25 billion deal completed in late 2013.2

Suppliers, Complements, and Substitutes

Suppliers to the PC industry fell into two categories: those that made products (such as memory
chips, disk drives, and keyboards) with many sources; and those that made products—notably
microprocessors and operating systems—that had just a few sources. Products in the first category
were widely available at highly competitive prices. Products in the second category were supplied
chiefly by two firms: Intel and Microsoft (see Exhibit 6 for selected financial information).

Microprocessors Microprocessors, or CPUs, were the hardware ―brains‖ of a PC. Intel had held
the majority of the PC CPU market since the 1980s. Despite competition from companies like Advanced
Micro Devices (11.5% market share in Q4 2014), Intel remained the market leader with leading-edge
technology, manufacturing scale, and a powerful brand, commanding over 88% of the market at the
end of 2014.29 Performance of CPUs continued to double roughly every 18 to 24 months, but prices had
dropped (adjusted for changes in computing power) by an average of 30% per year between 1970 and
2007. However, CPU prices had stabilized in recent years.30 In 2015, a few manufacturers were shipping
PCs with ARM, a low-power, lower-performance, and lower-priced CPU that was used in smartphones
and tablets, but ARM‘s market share in PCs remained tiny.

Operating system An OS was the software that managed a PC‘s resources and supported its
applications. Microsoft had dominated this market since the IBM PC in the 1980s. Nearly 90% of all

PCs in the world ran on some version of Microsoft‘s Windows operating system at the end of 2014.31

Microsoft‘s big hit in the new millennium was Windows XP. Introduced in October 2001, 17 million
copies of XP were sold in its first eight weeks of sales. Developed at a cost of $1 billion, XP initially

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garnered for Microsoft between $45 and $60 in revenue per copy.32 However, the next three
generations, Vista (2007), Windows 7 (2009), and Windows 8 (2012), met with mixed reviews, and each
new generation of OS faced higher development, marketing, and support costs. In mid-2015, Microsoft
planned to ship its latest update, Windows 10.

Application software, content, and complementary products The value of a computer
corresponded directly to the complementary software, content, and hardware that were available on
that platform. Key application software included word processing, presentation graphics, desktop
publishing, and Internet browsing. After the early 1990s, the number of applications available on PCs
exploded, while ASPs for PC software collapsed. Microsoft was the largest vendor of software for

Wintel PCs and, aside from Apple itself, for Macs as well.33 Firms such as Google even offered
productivity software (Google Apps) for free. PCs also benefited from a wide selection of content and
a vast array of complementary hardware, ranging from printers to multimedia devices. The number of
new, exciting PC applications had slowed considerably in recent years, as software developers
increasingly focused on new devices, such as phones and tablets.

Alternative technologies Since the early 2000s, consumer electronics (CE) products, ranging
from cell phones to TV set-top boxes to game consoles, started to encroach on functionality that was
once the sole purview of the PC. For example, advanced game devices like Sony PlayStation 3 allowed
consumers to watch DVDs, surf the web, and play games directly online, in addition to playing
traditional video games. Another alternative to Windows and Mac PCs emerged with the introduction
of Chromebooks by Google in 2011. Chromebooks were ultraportable laptops designed for web-
browsing, e-mail, and other online or cloud-based activities. In essence, a Chromebook was a low-cost
laptop with limited internal storage and a stripped-down operating system from Google, called
ChromeOS. All applications ran inside the Chrome web browser. Over the next few years, Samsung,
Dell, HP, Lenovo, and Acer introduced Chromebooks, which retailed for $199 to $349. Some analysts
predicted Chromebook sales would surpass 9 million units in 2015.34

Of course, the most widely used alternatives were smartphones and tablets. With 1.3 billion
smartphones and 230 million tablets sold in 2014, PC sales were suffering. While several industry
insiders worried about the impact of digital devices on the PC industry, Jobs viewed all of these devices
as part of an integrated strategy to deliver breakthrough user experiences.

The Macintosh and Apple’s “Digital Hub” Strategy

In 2001, marking Apple‘s 25th anniversary, Jobs presented his vision for the Macintosh in what he
called the ―digital hub.‖ He believed that the Macintosh had a real advantage for consumers who were
becoming entrenched in a digital lifestyle, using digital cameras, portable music players, and digital
camcorders, not to mention mobile phones. The Mac could be the preferred ―hub‖ to control, integrate,
and add value to these devices. Jobs viewed Apple‘s control of both hardware and software, one of the
few remaining in the PC industry, as a unique strength.

Apple subsequently revamped its product line to offer machines that could deliver a cutting-edge,
tightly integrated user experience. Thanks to creative marketing and several innovative computer
products, such as the ultra-thin Mac Air, Apple became the third-largest PC vendor in the U.S., with a
13% unit share in Q4 2014.35 The company‘s greatest strength lay in the premium-priced PC category;

91% of PCs priced above $1,000 in the U.S. market were sold by Apple.36 Globally, Apple‘s market
share had risen steadily since 2004, reaching 6.4% at the end of 2014, placing it fifth among global PC

manufacturers.37

Apple Inc. in 2015 715-456

Changing the Macintosh To accomplish his vision, Jobs made four important changes in the
Macintosh. First, and perhaps most important, Apple introduced a new OS in 2001, the first fully
overhauled platform released since 1984. The Mac OS X was based on UNIX, an industrial-strength OS
favored by computer professionals. Analysts estimated that OS X cost Apple roughly $1 billion to
develop. Second, since the early 1990s, Apple had built Macs with an IBM CPU, called PowerPC. In
2006, Jobs made a large investment to shift Apple to Intel chips. By the next year, the entire Macintosh
line ran on Intel. With ―Intel Inside,‖ Apple could produce thinner, lighter laptops as well as more
powerful computers. The Mac could also natively run Microsoft Windows along with

Windows

applications. This capability potentially offset a long-standing disadvantage of choosing a Mac—the
relative lack of Macintosh software.

The third element of the new Mac strategy was developing a proprietary set of applications, even
though building programs such as the iLife suite required Apple to assume significant development
costs.38 The final piece of Jobs‘s puzzle was a new distribution strategy. The first Apple retail store
opened in McLean, Virginia, in 2001. Apple not only wanted consumers to look at the eye-catching
Macintosh designs, but also wanted people to directly use and experience Apple‘s software. In 2014,
the retail division—with nearly 450 stores in 14 countries—accounted for 12% of Apple‘s total

revenue.39 Observers viewed Apple‘s retail strategy as a huge success: one analyst said that the
company had become ―the Nordstrom of technology.‖40 Most analysts believed that the popularity of
media products, such as the iPod, iPhone, and iPad, were critical to bringing consumers into the stores
and exposing them to the Mac.

Moving Beyond the Macintosh

Apple‘s shift toward a digital hub strategy was initiated by the debut of the iPod in 2001, followed
by the iPhone in 2007, then the iPad in 2010. While the prospects for the Macintosh business had
improved, it was the iPod that set Apple on its explosive growth path. Jobs‘s focus for the iPod was
simplicity: he said that ―to make the iPod really easy to use—and this took a lot of arguing on my part—
we needed to limit what the device itself would do. Instead we put functionality in iTunes on the
computer. . . . So by owning the iTunes software and the iPod device, that allowed us to make the

computer and the device work together, and it allowed us to put the complexity in the right place.‖41

The historical economics of the iPod were stellar by CE industry standards. The iPod Nano, for

example, had gross margins of around 40% in 2007.42 The biggest cost component for the Nano was
flash memory, which could account for more than half of the bill of materials. Recognizing the
importance of flash memory, Apple invested in several memory producers in order to secure output at
the best prices, which made Apple was one of the largest purchasers of flash memory in the world.

Apple‘s approach to developing and marketing the iPod became, over the initial and strenuous
opposition of Jobs, more open than its strategy for the Macintosh. The iPod could initially sync only
with a Mac, and Jobs wanted to keep it that way, reportedly declaring at one point that Windows users

would get iPods ―over my dead body.‖43 The rest of Apple‘s executive team pushed Jobs to change his
mind, and he ultimately relented. Opening the iPod provided access to the vast market of Windows
users, and sales only really took off after Apple developed a version of the iPod and the iTunes software
that worked on Windows PCs in 2003.

iTunes Two features that differentiated Apple‘s iPods were its iTunes desktop software and its
iTunes Music Store, which opened in April 2003. The two, in combination, completed Apple‘s vision

of an entertainment hub.44 The iTunes store was the first legal site that allowed music downloads on a
pay-per-song basis. Visitors could pay $0.99 per song for a title offered by all five major record labels

715-456 Apple Inc. in 2015

and by thousands of independent music labels. The downloaded songs could be played on the user‘s
computer, burned onto a CD, or transferred to an iPod. Within three days of launching the service, PC
owners had downloaded 1 million copies of free iTunes software and had paid for 1 million songs. 45

Customers loved the vast music selections and ease of use, transforming the iTunes store into the
number-one music store in the world.46

The launch of the iTunes store had a galvanic impact on iPod sales. In the quarter before the release
of iTunes store, Apple sold only 78,000 iPods. After the iTunes store launch, iPod sales shot up to

304,000 units in one quarter and exploded thereafter.47 The direct impact of iTunes on Apple‘s
profitability was far less impressive. On average, roughly 70% of the money Apple collected per
download went to the music label that owned it, and about 20% went toward the cost of credit card
processing. That left Apple with only about 10% of revenue per download, from which Apple had to

pay for its website, along with other direct and indirect costs.48 In essence, Jobs had created a razor-
and-blade business, only in reverse: the variable element (songs) served as a loss leader for a profit-

driving durable good.4

Competition Online music stores such as Amazon.com, Napster, and Walmart.com offered
individual song downloads at competitive or discounted prices to iTunes. Most competitors offered
songs to play on various devices, including the iPod. As time went on, the iPod and iTunes faced
challenges from a variety of online music streaming services, such as Pandora, Spotify, Rdio, and
Rhapsody. Some, such as Pandora, operated by creating personalized radio stations, choosing songs
based on listener preferences. Others, like Spotify, gave users unlimited access to their online catalog,
allowing users to create their own playlists, share them, and stream music like a virtual MP3 player. In

some markets, music labels made more money from Spotify than iTunes.50

Under fierce competition from streaming services, digital music downloads began to decline in
2013, both in the U.S. and globally, for the first time since the iTunes store launched in 2003. The iTunes
store experienced a decline of as much as 13% in the first half of 2014.51 In response, Apple launched
iTunes Radio, an ad-supported streaming service, in September 2013. In May 2014, Apple acquired
Beats Electronics in a $3 billion acquisition that was the largest in the company‘s history. Beats, founded
in 2008 by record-industry executive Jimmy Iovine and hip-hop artist Dr. Dre, generated most of its
revenue—$1.1 billion in 2013—from a line of wireless speakers and high-end headphones. Beats had
also launched a streaming music service in January 2014, which by the middle of the year had acquired
250,000 subscribers.

After peaking in 2008, iPod sales started to decline; iPod net revenues for 2014 were less than a
quarter what they had been in 2008. The disruption of the digital music by the rise of streaming services
had hastened its decline, but even more important had been the integration of digital music players
into cell phones. Jobs had anticipated that the cell phone had the potential to topple the iPod as early
as 2005, and ensured that Apple would lead the way with the iPhone, introduced in June 2007. Jobs
later noted, ―If you don‘t cannibalize yourself, someone else will.‖

The iPhone

At the January 2007 Macworld, Jobs introduced the iPhone, saying, ―Every once in a while a
revolutionary product comes along that changes everything. Today, we‘re introducing three
revolutionary products of this class. The first one is a widescreen iPod with touch controls. The second
is a revolutionary mobile phone. And the third is a breakthrough Internet communications

device These are not three separate devices, this is one device, and we are calling it iPhone.‖52
Hailed as Time magazine‘s ―Invention of the Year,‖ the iPhone represented Apple‘s bid to ―reinvent

Apple Inc. in 2015 715-456

the phone.‖53 Two and a half years of development efforts had been devoted to the phone, guarded
under intense secrecy, even among the company‘s own employees. The estimated development cost
was around $150 million.

Entry into mobile phones might have been a risky move for Apple. At the time, the industry was
dominated by Nokia, Motorola, and Samsung, with roughly 60% market share. In addition, products
were characterized by short product life cycles (averaging six to nine months) and sophisticated
technology, including radio technology, where Apple had little experience. Smartphones, which
brought multiple functions together in the palm of one‘s hand, were just coming into prominence. In
distribution, Apple faced powerful cellular carriers such as T-Mobile and Vodafone, which controlled
the networks and often the phones used on those networks. In the U.S., the top two carriers—Verizon
Wireless and AT&T—collectively controlled more than 60% of the market, and their networks were
―locked‖: an AT&T phone would only work on AT&T‘s network.

The iPhone, however, changed the rules in the industry. A revolutionary 3.5-inch touch-screen
interface placed commands at the touch of users‘ fingertips without a physical keyboard. The iPhone‘s
entire system ran on a specially adapted version of Apple‘s OS X platform called iOS. Above all, users
found it intuitive to use. Apple initially gave the iPhone to only one network operator in most markets.
AT&T, the exclusive U.S. operator for the iPhone when it launched, did not provide a subsidy, contrary
to the usual practice in the industry. Instead, AT&T agreed to an unprecedented revenue-sharing
agreement with Apple, which gave Apple control over distribution and pricing.

The first-generation iPhone sold about 6 million units over five quarters. Over the next six years,
Apple released new phones that were thinner, faster, more intelligent, and offered new form factors.
The second iPhone, for example, was released in 2008 and ran on a faster 3G network. More
importantly, Apple revamped its pricing model. Carriers provided a subsidy on the phone in exchange
for dropping the revenue-sharing agreement, and some subsidies were $400 per phone or higher. Over
the next few years, Apple released an upgraded iPhone every 12 to 15 months and greatly expanded
distribution. With the release of the 4s in October 2011, Apple introduced Siri, a voice-activated
technology that Apple bought in 2010. With Siri, the user could dictate texts, schedule appointments,

ask questions, and send e-mails using voice commands.54 The iPhone 5, announced in September 2012,
offered a larger screen size for the first time; and a year later, the company launched the iPhone 5c,
Apple‘s first attempt to move down-market. The most successful iPhones in history were the 6 and 6
plus, released in September 2014. These models had a 4.7-inch and a 5.5-inch screen, respectively,
matching the best-selling Android phones.

Apple‘s relationship with carriers changed, too. In most markets in the world, Apple moved from
a single carrier to multiple carriers selling iPhones. When Apple added new carriers, it had a reputation
as a very tough negotiator: Sprint, for example, signed a four-year, $15 billion deal with Apple that

committed the carrier to sell at least 24 million iPhones.55 Apple also began to sell ―unlocked‖ versions
of the phone; users paid full price and could bring them to any carrier. With each new generation of
product, Apple also dropped the price of prior generations. The combination of big subsidies, low
prices on older models, and expanded distribution caused revenues and unit volumes to explode (see
Exhibit 1). Analysts also projected that Apple generated more than 60% of the cell-phone industry‘s
total profits in 2013, with only 8.3% unit market share. In the fourth quarter of 2014, Apple took a
staggering 93% of the handset industry‘s profits.56

Analysts estimated that Apple realized an ASP of $687 from its iPhones in the last quarter of 2014,

while overall average selling prices for smartphones was around $300.57 Falling component costs and
design improvements helped to reduce the iPhone‘s cost structure. One study showed that the bill of

715-456 Apple Inc. in 2015

materials for the 16GB iPhone 6, which retailed for $649, was about $200.58 The first iPhone with half

the storage capacity cost around $220 to build.59 Apple‘s drive to keep its costs down was often
controversial. Apple had become one of the largest customers of Foxconn in China. After several

suicides of Foxconn workers, Apple commissioned a study by the Fair Labor Association,60 which
discovered ―serious and pressing‖ violations of the FLA‘s code of conduct. Cook promised quick action
to bring subcontractors into compliance.

App Store One key driver behind the iPhone sensation was the launch of the Apple App Store,
which Jobs only reluctantly supported. Jobs initially wanted Apple to develop all the apps for the
phone, a stance consistent with his preference for closed platforms and total control. Other Apple
executives pushed Jobs to open up the platform, and developers soon began to ―jailbreak‖ the iPhone
platform so it could to run additional apps anyway. Jobs eventually relented, and the App Store
launched in July 2008. Software applications for PDAs and smartphones had been around for years.
But Apple‘s App Store was the first outlet that made it easy to distribute, access, and download
applications directly onto the mobile phone. Many apps were free; even paid apps usually started at
$0.99. The App Store was introduced as part of iTunes, which already had a huge following. Software
developers also welcomed the App Store because Apple made it easier to reach consumers. Apple
reserved the right to approve all applications and kept a 30% cut of the developer‘s app sales.

The popularity of the App Store was stunning. In the first 18 months, 4 billion applications had been

downloaded worldwide; by mid-2014, the number of downloads had risen to 75 billion.61 By the end
of 2014, over 1.4 million applications were available in categories ranging from games to business
productivity programs (see Exhibit 7 for an overview of smartphone operating systems and app

stores).62 Walt Mossberg of the Wall Street Journal claimed that ―the App Store is what makes your
device worth the price.‖63 Mobile apps had turned into a nice side business for Apple as well. In FY
2014, Apple generated $10.2 billion in revenues from the sale of music, books, videos, and
applications.64 Over time, Apple also paid out more than $25 billion to developers for the 75 billion

apps downloaded to iPhones, iPods, and iPads.65

Competitors Competition was fierce in the smartphone industry, where worldwide shipments
surpassed 1.3 billion in 2014.66 The iPhone‘s greatest competition came from Android, an open and
free platform developed by Google. As more manufacturers entered the market, innovation on the
Android platform exploded. Not surprisingly, developers saw a potentially large market that might
rival Apple. More variety, lower prices, and a comparable set of applications powered Android-based
phones to become the most popular smartphones in 2014, with about 81% market share compared to
about 15% for Apple. In 2014, more than 1 billion Android phones shipped worldwide (see Exhibit 7
for smartphone sales).67 The share for Apple‘s iOS fell gradually with the growth of Android, from its
peak of nearly 19% in 2011. However, the biggest losers from Android‘s growth were Nokia‘s Symbian
and RIM‘s BlackBerry. Symbian had the largest share as late as 2010, but Nokia abandoned the platform
in 2012 in favor of Microsoft Windows. By 2014, BlackBerry‘s share, which was once as high as 20%,
had fallen to under 1%.

Among handset manufacturers, Samsung was Apple‘s most direct competitor. Samsung was a huge
company that made chips, PCs, TVs, and appliances as well as phones (see Exhibit 6 for financials of
Apple competitors). Samsung was a relatively late entrant into the smartphone segment, but it became
the volume leader in 2011 with the introduction of its Android-based Galaxy handset. Although

Samsung remained the market leader in 2014 with 24.5% share,68 its profits were being squeezed by
Apple at the high end of the market, and aggressive Chinese manufacturers at the low end. In Q4 2014,
Apple and Samsung were practically tied for leadership, with each firm selling about 75 million units.

Apple Inc. in 2015 715-456

Lenovo had emerged as the third-largest player in the smartphone industry, bolstered by its $2.9
billion acquisition of Motorola in 2014: the combined company held 7.4% of the handset market
globally. Similar to the PC market, Lenovo had a particularly strong position in its home market,
surpassing Samsung in 2014 as the top smartphone seller in China.69 Perhaps the most feared
competitor in the market was a new player from China called Xiaomi, which brought its first
smartphone to market in 2011. With a business model built on selling inexpensive phones with high-
end specifications, Xiaomi‘s sales doubled in 2013 and tripled in 2014, to 61.1 million units. Entering
2015, it had cracked the top-five in smartphone sales worldwide with 4.4% of the market, and had

announced ambitious plans to expand beyond China.70

Microsoft struggled in smartphones. In what some analysts called a desperate move to imitate
Apple, Microsoft bought Nokia‘s devices business for $7.2 billion in early 2014. Microsoft began selling
Nokia‘s Lumia line of smartphones, running its Windows Phone operating system, under its own
brand later that year. Although it continued to license its software to other vendors, such as Samsung
and HTC, Microsoft‘s share of the global smartphone market slipped under 3% for 2014.

Google‘s competitor to Apple‘s App Store, called Play Store, launched in late 2008 and trailed the
App Store for the next several years. In 2014, the number of Android apps surpassed the number
available from Apple for the first time, and downloads from the Play Store were 60% higher than from
the App Store. Despite fewer downloads, though, Apple‘s App Store generated significantly more
revenue, indicating its strength in the premium market (see Exhibit 7).71 While Google had fewer

restrictions than Apple,72 developers found it more challenging to write applications for Android. Most
Android phones varied slightly, which required software developers to write numerous versions of
their applications.

Suppliers The supplier base was structurally different in smartphones compared to PCs. The
supplier that captured most of the value in smartphones was Qualcomm, which largely controlled
CDMA (3G) and LTE (4G)—the two most important protocols for wireless service. Except in China,
Qualcomm earned between 3.5% and 5% royalties on almost every CDMA and LTE phone sold in the
world. The CPU business was also structurally different: the vast majority of CPUs in smartphones
were based on a design by ARM Holding, a U.K. company. ARM licensed its core design for about 1%
on each CPU, which sold for roughly $15–$20. Google also developed its application store to enable
applications to run on different versions of ARM as well as Intel‘s x86 CPUs, so there was no
architectural lock as there was on Windows PCs. Three companies dominated the ARM CPU business
in smartphones in 2014: Qualcomm had about 54%, Apple had roughly 15%, and MediaTek from

Taiwan had just under 14%.73 Dating back to the early days of Apple, Jobs always preferred to control
the critical technologies that would drive Apple‘s differentiation. To grab greater control of mobile
devices, Jobs bought two ARM microprocessor design companies for about $400 million between 2008
and 2010.74 Apple‘s CPUs were manufactured by Samsung and optimized to deliver Apple‘s
demanding specifications on battery life and performance.

The patent wars Intense competition in the smartphone industries led to numerous lawsuits on
design and intellectual property.75 Jobs was the most aggressive CEO in pursuing legal redress. ―From
the earliest days at Apple, I realized that we thrived when we created intellectual property If
protection of intellectual property begins to disappear, creative companies will disappear or never get
started. But there‘s a simpler reason: It‘s wrong to steal. It hurts other people. And it hurts your own

character.‖76 In 2010, Apple initiated litigations against several Android manufacturers. Jobs explained,
―I will spend every penny of Apple‘s $40 billion in the bank, to right this wrong. I‘m going to destroy
Android, because it‘s a stolen product. I‘m willing to go to thermonuclear war on this. They are scared

to death, because they know they are guilty.‖77 By 2014, Apple had won two large judgments against

715-456 Apple Inc. in 2015

Samsung in U.S. courts. In early 2015, Swedish telecom pioneer Ericsson filed several lawsuits in the
U.S., asking the courts to block sales of iPhones and iPads. The suits came after the two companies
failed to come to terms on the renewal of Apple‘s licensing agreement for several of Ericsson‘s patents

related to essential technology for connecting to high-speed wireless communications networks.78

Moving Beyond the iPhone: The iPad

The iPhone‘s spectacular success may have satisfied many CEOs, but not Steve Jobs. In 2010, he saw
another opportunity to make a bold move to redefine computing with the launch of the iPad. ―Some
people say, ‗Give the customers what they want,‘‖ said Jobs, ―but that‘s not my approach. Our job is to

figure out what they‘re going to want before they do.‖79 That was what he did with the iPad. Apple‘s
release of the iPad on March 2, 2010, defined a new device category that Jobs described as ―even more
intuitive and easier to use than a PC, and where the software and the hardware and the applications

need to be intertwined in an even more seamless way than they are on a PC.‖80 Prior to the iPad, tablet
sales accounted for a trivial share of the PC market. When the iPad launched, market demand was
uncertain, at best. But doubters were quickly silenced, as sales of the new device took off. More than
450,000 iPads were sold during its first week on the market. Jobs commented, ―It feels great to have the

iPad launched into the world—it‘s going to be a game changer.‖81 By the end of 2014, Apple had built
another $30 billion business, cumulatively selling nearly 240 million iPads.82

The iPad was originally priced from $499 to $829 and was sold in the U.S. by Apple retail stores,
wireless carriers, and other retail stores. Operators did not subsidize iPads, as they did smartphones.
Consumers could choose to connect to the Internet by paying for access to a carrier‘s data network or

relying exclusively on Wi-Fi networks. Most tablet owners opted for a Wi-Fi–only connection.83

Perhaps the biggest debate about the iPad was its usage model. Market research indicated that tablet

owners viewed it primarily as a device to consume content rather than produce it.84 The most popular
activities included checking e-mail, playing games, watching full-length videos, and shopping online.
The iPad could run, with some limitations, almost all iPhone apps. To offset those limitations, software
developers released over 675,000 native iPad apps by late 2014.85 Over time, iPad consumers became
more creative in finding uses for the iPad for everything from writing music to restaurant menus, sales
tools, and even car-owner manuals. In late 2012, Apple released the iPad Mini, a less expensive version
with a 7.9-inch screen. Although Jobs had previously dismissed such tablets as ―tweeners,‖ the iPad
Mini quickly became Apple‘s best-selling tablet.

An early controversy over the iPad erupted when Apple sought to offer its own bookstore.
Historically, Jobs had insisted on low prices for content on the iPod and iPhone ($0.99 for songs, and
free or low-priced apps). But in trying to woo book and magazine publishers to the iPad, Jobs faced
Amazon, which distributed 90% of the digital books on the market through its Kindle e-reader. To
stimulate demand, Amazon priced many of its books at $9.99, often below Amazon‘s costs. Publishers
were unhappy with the pricing: they feared low prices would devalue the content as well as cause
rapid cannibalization of physical books. Apple made an offer to publishers that they set their own
prices, usually ranging from $12 to $15 for an e-book. Apple then took a 30% commission. After initially
resisting, Amazon was forced by publishers to follow suit. By April 2012, Amazon‘s market share in e-
books had fallen to 60%.86 The Department of Justice, however, investigated Apple‘s strategy in early
2012, accusing the company and five publishers of price fixing. The court ruled that Apple had in fact
colluded with publishers to raise prices, and in late 2014, Apple agreed to pay $400 million in damages
to consumers who had paid artificially high prices for e-books (as well as $50 million to lawyers).87

Apple Inc. in 2015 715-456

Since the settlement gave digital retailers flexibility again in setting prices, Amazon almost
immediately lowered prices back to $9.99 on some books.

Apple‘s business model for the iPad was also slightly different from earlier products. Apple earned
an estimated 25% gross margin on its entry-model iPad by using its own CPU, giving the channel a
lower margin and leveraging its scale in purchasing. Apple had lower costs than most competitors,

which could only make 15% gross margin at the same retail price.88 Yet despite Apple‘s formidable
lead, at least 20 major manufacturers launched tablets over the next few years, driving down Apple‘s
once-commanding market share (see Exhibit 8 for worldwide tablet shipments).

Competition Apple had at least three potential serious competitors for tablets: (1)
manufacturers using Google‘s version of Android; (2) Amazon, which used a modified version of
Android; and (3) Microsoft Windows–based tablets. Android-based tablets were rushed to the market

in late 2010, and by the end of 2014, Android had captured 70% share.89 Samsung was the leader in this
camp, with 17.5% of the worldwide tablet market.90 Similar to smartphones, Android‘s app store was
gradually catching up to Apple in the availability of tablet apps.

Amazon, by contrast, had a different model: it developed a distinctive user interface and sold its
seven-inch tablet, the Kindle Fire, for $199. Amazon‘s product costs were estimated to be slightly more
than $200.91 While Apple sought to make money on hardware, Amazon hoped to make money on
software, applications, and content. Despite an impressive start, Amazon struggled to sell large
volumes: in 2014, Amazon sold only 3.3 million tablets, for a market share of just 1.4%.92

Microsoft brought its tablet—the Surface—to market in October 2012, powered by Windows 8,
Microsoft‘s newest OS. More like a PC than an iPad, Microsoft captured only 2.1% unit share of the
tablet market in 2013, and the company was forced to take a $900 million write-off in the second quarter

of 2013.93 Microsoft refocused its efforts on the enterprise market in 2014, which improved sales and
margins. But Surface‘s market share remained under 5%.

Saturation? After tremendous growth in its first three years, tablet sales began to lose
momentum in 2014. The fourth quarter of 2014 saw a worldwide year-over-year decline in tablet
shipments of 3.2%. This was the first quarterly decline since the iPad launched. Apple was hit

particularly hard: for FY 2014, unit sales declined by 5% and net revenues were down 4%.94 By the end
of 2014, the iPad had seen four consecutive quarters of sales declines.95 In this slowing market, Apple

remained the market leader, with 27.6% share, followed by Samsung, ASUS, Lenovo, and Amazon.96

Partly to spur sales of the iPad, in July 2014, Cook announced a partnership with IBM to develop
enterprise apps designed for the iPad and iPhone and to enlist IBM‘s sales force and business
connections to sell Apple mobile devices to enterprise customers. As Cook pointed out, iPhones and
iPads were present in 90% of the Fortune 500, but the rate of penetration was low, providing Apple
with what he described as a huge opportunity to advance mobility in the enterprise.

iCloud One of Jobs‘s last acts as CEO was to prepare Apple for the launch of iCloud in October
2011. Jobs‘s vision was that Apple was ―the first to have the insight about your computer becoming a
digital hub . . . [which] worked brilliantly. But over the next few years, the hub is going to move from

your computer into the cloud. So it‘s the same digital hub strategy, but the hub‘s in a different place.‖97

iCloud allowed users to synchronize seamlessly across multiple Apple devices by storing data,
pictures, music, and so on, in one location on the Internet. Five GB of cloud storage on iCloud was free
for Mac, iPhone, iPad, and iPod Touch users. Consumers could also pay for additional storage.98 To
support iCloud, Apple invested in a huge data center in North Carolina at an estimated cost of $500
million.99 Notably, iCloud worked only with Apple products. Following Apple‘s lead, OS competitors

715-456 Apple Inc. in 2015

such as Google and Microsoft offered their own cloud storage services, while product competitors such
as Samsung struck deals with Dropbox, a cross-platform cloud storage solution first launched in 2008.

Moving Beyond the iPhone and iPad: Apple Watch and Apple Pay

During the three years after Steve Jobs‘s death, Apple witnessed spectacular revenue growth, driven
by booming iPhone and iPad sales. After Jobs had revolutionized music, phones, and computing
between 2001 and 2011, Apple fans were waiting for (and expecting) the next revolution under Cook.
Hoping to meet those expectations, Cook announced his first new major product initiative in
September 2014: the Apple Watch, Apple‘s entry into wearable technology. Although the product
would not ship until late April 2015, Apple showed off many of its features in March 2015. The Apple
Watch would function, of course, as a timepiece, but also incorporate fitness-tracking features. When
connected to a user‘s iPhone, it would bring smartphone applications to the user‘s wrist: users could
receive notifications about upcoming calendar events, e-mail, and text messages without looking at
their phones, and could, for example, access maps and directions or control the iPhone‘s music player
without needing to pick up their phones.

Apple was not the first in the category, but it was expected to become the largest. The question was,
how large? The Apple Watch had to be charged every day, it only worked with new iPhones, and it
was expensive: prices started at $349 for the basic model and ranged as high as $17,000 for an 18-karat
gold model. Moreover, there was already significant competition. The pioneer in the category was a
start-up called Pebble, which shipped the first real smartwatches in 2012 for both iOS and Android.
Pebbles sold for as little as $150. The largest player entering 2015 was Samsung, which like Apple,
offered watches that only worked with its own phones. Overall unit sales for the industry had been
disappointing (see Exhibit 9). After Google announced ―AndroidWear‖ in March 2014, extending the
Android platform to watches, LG, Motorola, and Samsung subsequently introduced watches based on
the platform. The field was expected to be very crowded. Even fancy Swiss watch companies, such as
Tag Heuer, announced that they would join the fray.

The same day Cook announced the Apple Watch, he also introduced Apple Pay, Apple‘s new
mobile payment system. When it was announced, most of the nation‘s largest banks and credit card
companies had signed on to support it. By early 2015, dozens of retailers, including Walgreens,
McDonald‘s, Macy‘s, and Whole Foods, had pledged to accept Apple Pay in their stores. To set it up,
users added a credit or debit card to Apple Pay on their iPhone. Once a card had been added, Apple
Pay allowed users to pay simply by holding their iPhone or Apple Watch near a wireless payment
terminal while keeping their finger on the home button. Payment information was transmitted from
the device to the payment terminal using near field communication technology. To enable secure
transactions, the system used TouchID, the iPhone‘s fingerprint recognition technology, to ensure that
the phone‘s owner was the one making the purchase. In addition, credit card information was not
transferred to the retailer during the transaction; rather, a device account number unique to the phone
was transmitted along with a dynamic security code unique to each transaction. Apple hoped that the
combination of security and convenience would encourage rapid uptake of the technology. Cook
claimed in December that Apple Pay accounted for two-thirds of mobile payments at participating
retailers. By early 2015, nearly 2 million customers at two of the nation‘s largest banks—Bank of

America and Chase—had added credit or debit cards to their Apple Pay account.100

Apple Inc. in 2015 715-456

The Occasional Disappointments

While almost everything that Apple had touched in the first decade of the 21st century turned to
gold, the record was not unblemished. Apple had two notable products that failed to live up to
expectations. One was the Mac Mini. As Apple‘s entry-level desktop, the $599 price tag did not come
with a keyboard or a mouse. Consumers could buy a Windows desktop with more functions and faster
performance at a lower price. The other disappointment was Apple TV. Introduced in 2007, the set-top
box was Apple‘s attempt to bring digital video content directly into consumers‘ living rooms. Users
could stream movies and TV shows over the Internet to a TV set and/or connect other Apple devices
to the TV over a Wi-Fi connection. However, Apple TV sales were paltry compared to Apple‘s other
products. Before he died, Jobs claimed to have cracked the code for a next-generation television, which
Apple watchers were still waiting to see in early 2015.

Apple Inc. in the Next Decade?

Inevitably, many had wondered about what would happen to Apple with Jobs gone, but Apple had
performed above everyone‘s expectations in Cook‘s first three years as CEO. The stock price nearly
doubled between the end of FY2011 and FY2014, while revenues were up nearly 70% over the same
period. In early 2015, Apple‘s market capitalization surpassed $700 billion, making it the most valuable
company in the history of the world. Despite this success, some observers worried that Apple had
become overly dependent on the iPhone and pondered how long Apple could sustain its growth
without the introduction of truly innovative new products. Cook claimed that the Apple Watch, Apple
Pay, Apple TV, and corporate customers were big growth areas for the company; he confidently
exclaimed that Apple‘s product ―pipeline‖ was the strongest he had ever seen. There were even rumors
in the press that Apple would start to develop cars to compete with Tesla, and Apple would soon offer
TV services over the Internet to compete with cable operators.

While Cook appeared supremely confident at the Apple Watch event, he had to be thinking: Could
Apple Watch and Apple Pay really be the next iPhone and iTunes? And what steps did he need to take
to drive that success?

715-456 -16-

Exhibit 1a Apple Inc., Selected Financial Information, FY 1991–2014 (in millions of dollars, except for number of employees and stock-related data)

1991 1996 1998 2000 2002 2004 2006 2008 2010 2012

2014

Net sales

6,309

9,833

5,941

7,983

5,742

8,279

19,315

37,491

65,2

156,508

182,795

Cost of sales 3,314 8,865 4,462 5,817 4,139 6,022 13,717 24,292 39,541 87,846 112,258

Research and development 583 604 303 380 446 491 712 1,109 1,782 3,381 6,041

Selling, general, and administrative 1,740 1,568 908 1,256 1,109 1,430 2,433 3,761 7,299 10,040 11,993

Operating income (loss) 671 -1,204 268 530 48 336 2,453 8,327 18,385 55,241 52,503

Net income (loss) 310 -816 309 786 65 266 1,989 6,119 14,013 41,733 39,510

Total cash, cash equivalents, and

marketable securities 893 1,745 2,300 4,813 4,376 5,464 10,110 24,490 51,011 121,251 155,239

Accounts receivable, net 907 1,496 955 953 707 1,050 2,845 4,704 9,924 18,692 27,2

Inventories 672 662 78 33 45 101 270 509 1,051 791 2,111

Net property, plant, and equipment 448 598 348 419 621 707 1,281 2,455 4,768 15,452 20,6

Total assets 3,494 5,364 4,289 6,803 6,298 8,050 17,205 36,171 75,183 176,064 231,839

Total liabilities 1,727 3,306 2,647 2,696 2,203 2,974 7,221 13,874 27,392 57,854 120,292

Total shareholders’ equity 1,767 2,058 1,642 4,107 4,095 5,076 9,984 22,297 47,791 118,210 111,547

Cash dividends paid 57 14 — — — — — — — 2,488 11,126

Number of employees 14,432 10,896 9,663 8,568 10,211 11,695 17,787 32,000 46,600 72,800 92,600

International sales/sales 45% 52% 45% 46% 43% 41% 41% 44% 56% 61% 62%

Gross margin 47% 10% 25% 27% 28% 27% 29% 35% 39% 44% 39%

R&D/sales 9% 6% 5% 5% 8% 6% 4% 3% 3% 2% 3%

SG&A/sales 28% 16% 15% 16% 19% 17% 13% 10% 9% 6% 7%

Return on sales 5% NA 5% 10% 1% 3% 10% 16% 22% 27% 22%

Return on assets 9% NA 7% 12% 1% 3% 12% 17% 19% 24% 17%

Return on equity 19% NA 22% 22% 2% 6% 23% 33% 35% 43% 3

Stock price low a $1.44 $0.57 $0.48 $0.97 $0.95 $1.51 $7.17 $11.31 $27.18 $58.43 $70.51

Stock price high $2.62 $1.27 $1.56 $5.37 $1.87 $4.97 $13.31 $28.61 $46.67 $100.72 $119.75

P/E ratio at period-end 21.9 NA 19.5 6.8 78.2 58.5. 25.6 8.2 14.7 15.1 15.6

Market value at period-end 6,649.9 2,598.5 5,539.7 4,996.2 5,146.4 25,892.5 72,900.8 75,870.6 295,455.3 499,821.0 647,506.9

Source: Compiled from Capital IQ data and ThomsonOne, as well as company documents.

a Share price data reflect calendar-year results and also reflect retroactive application of 7:1 stock split that took effect in June 2014.

Apple Inc. in 2015 715-456

Exhibit 1b Apple‘s Net Sales by Product Category, 2002–2012 (in millions of dollars)

2002

2004

2006

2008

2010

2012

2013

2014

Macintosh 4,534 4,923 7,375 14,354 17,479 23,221 21,483 24,079

iPad NA NA NA NA 4,958 30,945 31,980 30,283

iPod 143 1,306 7,676 9,153 8,274 5,615 4,411 2,286

Other music productsa 4 278 1,885 3,340 4,948 8,534 NA NA

iPhone, related products and servicesb NA NA NA 6,742 25,179 78,692 91,279 101,991

Peripherals and other hardwarec 527 951 1,100 1,694 1,814 2,778 NA NA

Accessoriese NA NA NA NA NA NA 5,706 6,093

Software 307 502 NA NA NA NA NA NA

Service and other net sales 227 319 NA NA NA NA NA NA

Software, service, and other salesd NA NA 1,279 2,208 2,573 3,459 NA NA

iTunes, software, and servicesf NA NA NA NA NA NA 16,051 18,063

Total net sales 5,742 8,279 19,315 37,491 65,225 156,508 170,910 182,795

Source: Compiled from Apple‘s financial statements and casewriter calculations.

Note:

NA = Not Available or Not Applicable.

a Represents iTunes Store sales, iPod services, and Apple-branded and third-party iPod accessories.

b Represents handset sales, carrier agreements, and Apple-branded and third-party iPhone accessories.

c Includes sales of displays, wireless connectivity and networking solutions, and other hardware accessories.

d Includes sales of Apple-branded operating system, application software, third-party software, AppleCare services, and Internet
services.

e Includes sales of Apple-branded and third-party accessories for iPhone, iPad, Mac, and iPod.

f Includes revenue from the iTunes Store, the App Store, the Mac App Store, the iBooks Store, AppleCare, licensing, and other
services.

715-456 Apple Inc. in 2015

Exhibit 1c Apple‘s Unit Sales by Product Category, 2004–2012 (in thousands of units)

2004

2006

2008

2009

2010

2012

2013

2014

Desktopsa

1,625

2,434

3,712

3,182

4,6

4,656

Portablesb 1,665 2,869 6,003 7,214 9,035 13,502 NA NA

Total Macintosh unit sales 3,290 5,303 9,715 10,396 13,662 18,158 16,341 18,906

Net sales per unit sold $1,496 $1,391 $1,478 $1,333 $1,279 $1,279 $1,315 $1,274

iPads NA NA NA NA 7,458 58,310 71,033 67,977

Net sales per unit sold NA NA NA NA $665 $531 $450 $445

iPods 4,416 39,409 54,828 54,132 50,312 35,165 26,379 14,377

Net sales per unit sold $296 $195 $167 $149 $164 $160 $167 $159

iPhone units sold NA NA 11,627 20,731 39,989 125,046 150,257 169,219

Net sales per unit soldc NA NA $580 $629 $630 $629 $607 $603

Source: Compiled from Apple‘s financial statements and casewriter calculations.

Note: Data for 2004–2011 based on fiscal-year results ending September. Data for 2012 reflect the latest 12 months ending
March 31, 2012.

a Includes iMac, Mac Mini, Mac Pro, and Xserve product lines.

b Includes MacBook, MacBook Air, and MacBook Pro product lines.

c Sales/unit includes accessories and related service revenue.

Exhibit 2 Apple‘s Share Price vs. S&P 500 Index (December 31, 1982 = 100)

Source: Created by casewriter using data from ThomsonOne, accessed March 2015.

Apple Inc. in 2015 715-456

Exhibit 3a Apple‘s Worldwide PC Market Share, 1980–2014

14%

12%

8%
6%
4%
2%
0%

1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 2010 2013

Source: Adapted from InfoCorp., International Data Corp., Gartner Dataquest, and Merrill Lynch data.

Exhibit 3b PC Manufacturers: Worldwide Market Shares, 2002–2011

2002 2004 2006 2008 2010 2011 2012 2013 2014

Hewlett-Packarda

16.0%

15.8%

16.5%

18.9%

18.5%

17.1%

16.6%

18.4%

Dell 15.1% 17.9% 16.6% 14.7% 12.5% 12.2% 11.1% 12.0% 13.5%

Lenovob — 2.3% 7.1% 7.6% 9.8% 12.1% 15.0% 17.1% 19.2%

Acer — 3.6% 5.8% 10.9% 12.4% 10.2% 9.6% 7.8% 7.8%

Toshiba 3.2% 3.6% 3.9% 4.8% — — — — —

Fujitsu Siemens 4.2% 4.0% — — — — — — —

IBMb 5.9% 5.9% — — — — — — —

Packard Bell NEC 3.3% — — — — — — — —

Apple 2.3% 1.9% 2.3% 3.4% 3.9% 4.7% 5.0% 5.4% 6.4%

Total shipments

(in millions)

136.9

177.5

235.4

287.6

346.8

363.9

352.4

315.1

308.6

Source: ―PC Market Stumbles on HDD Shortage While U.S. Market Sees Worst Annual Growth Since 2001, According to IDC,‖
IDC press release, January 11, 2012; ―PC Market Records Modest Gains During Fourth Quarter of 2010, According to
IDC,‖ IDC press release, January 12, 2011; ―PC Market Stumbles on HDD Shortage While U.S. Market Sees Worst
Annual Growth Since 2001, According to IDC,‖ IDC press release, January 11, 2012; ―PC Leaders Continue Growth
And Share Gains as Market Remains Slow,‖ IDC press release, January 12, 2015; Apple Inc. annual financial reports;
and casewriter estimates.

Note: Market share data for Apple are derived from Macintosh unit sales, as reported in the company‘s annual reports. The
sampling of market shares for other companies comes mainly from annual listings of the top-five PC makers, as
measured by IDC. Absence of a figure indicates that a company placed below the top five in a given year.

a HP acquired Compaq in mid-2002. The 2002 market share figure for HP includes Compaq sales for the first part of that year.

b Lenovo acquired IBM‘s PC business in mid-2005. The 2005 market share figure for Lenovo incorporates IBM sales for the
early part of the year.

715-456 Apple Inc. in 2015

Exhibit 4 Shipments and Installed Base of PC Microprocessor (in millions of units)

Total Shipments 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014

Intel Technologies

PC units shipped 47.8 76 105 156 126 170 230 287 329 344 322

PC installed base 211.4 347.5 542.5 839 1,111 1,433 1,863 2,411 3,034 3,695 4,237

Mac units shipped NA NA NA NA NA NA 5.7 9.9 14.4 17.1 19.6

Intel-Mac installed

base

5.7

23.3

48.9

83.8

120.5

Motorola (680X0)

Units shipped 3.9 0.8 0.2 NA NA NA NA NA NA NA NA

Installed base 24.9 26.8 27.5 NA NA NA NA NA NA NA NA

PowerPC

Units shipped 0.8 4 3.5 4.7 3.1 3.5 NA NA NA NA NA

Installed base 0.8 7.8 14.1 22.2 29.4 36.2 NA NA NA NA NA

Source: Adapted from Gartner Dataquest, InfoCorp., IDC, Merrill Lynch, Credit Suisse data, and company data.

Notes: Between 5% and 10% of total microprocessor shipments went into non-PC end products. In any given year, as much
as 60% of microprocessors in the total installed base involved older technologies that were probably no longer in use.
The figures for PowerPC shipments included microprocessors destined for Sony PlayStation and Xbox 360 machines.
Figures for ―Mac units shipped‖ over Macintosh calendar-year sales.

NA = Not Available or Not Applicable.

Exhibit 5 PC Manufacturers‘ Key Operating Measures, 1997–

2014

1997 2000 2003 2006 2008 2010 2012 2014

Gross margins (%)

Apple 21% 27% 29% 29% 35% 39% 44% 39%

Dell 23% 21% 19% 17% 18% 19% 21% —

Hewlett-Packard 38% 31% 29% 24% 24% 22% 22% 23%

Lenovo — 13% 15% 14% 15% 11% 11% 13%

R&D/Sales (%)

Apple 12% 5% 8% 4% 3% 3% 2% 3%

Dell 1% 2% 1% 1% 1% 1% 2% —

Hewlett-Packard 7% 5% 5% 4% 3% 2% 3% 3%

Source: Compiled from Capital IQ and ThomsonOne, accessed April 2012, March 2015.

Note: All information is on a fiscal-year basis. Apple‘s fiscal year ends in September, HP‘s in October, Dell‘s in January, and
Lenovo‘s in March.

Apple Inc. in 2015 715-456

Exhibit 6 Apple‘s Competitors: Selected Financial Information, 2004–2014 (in millions of dollars)

2004 2006 2008 2010 2012 2013 2014

Microsoft

Total revenues 36,835 44,282 60,420 62,484 73,723 77,849 86,833

Cost of sales 6,596 7,650 11,598 12,395 17,530 20,249 26,934

R&D 7,735 6,584 8,164 8,714 9,811 10,411 11,381

SG&A 10,640 12,276 16,687 16,685 18,426 20,425 20,632

Net income 8,168 12,599 17,681 18,760 16,978 21,863 22,074

Total assets 94,368 69,597 72,793 86,113 121,271 142,431 172,384

Total liabilities 19,543 29,493 36,507 39,938 54,908 63,487 82,600

Total shareholders’ equity 74,825 40,104 36,286 46,175 66,363 78,944 89,784

Gross margin 82.1% 82.7% 80.8% 80.2% 76.2% 74.0% 69.0%

R&D/sales 21.0% 14.9% 13.5% 13.9% 13.3% 13.4% 13.1%

SG&A/sales 28.9% 27.7% 27.6% 26.7% 25.0% 26.2% 23.8%

Return on sales 22.2% 28.5% 29.3% 30.0% 23.0% 28.1% 25.4%

Market capitalizationa 313,046 233,097 256,302 223,608 256,375 287,691 343,566

Intel

Total revenues 34,209 35,382 37,586 43,623 53,341 52,708 55,870

Cost of sales 14,301 17,164 16,742 15,132 20,190 21,187 20,261

R&D 4,778 5,873 5,722 6,576 10,148 10,611 11,537

SG&A 4,659 6,138 5,452 6,309 8,057 8,088 8,136

Net income 7,516 5,044 5,292 11,464 11,005 9,620 11,704

Total assets 48,143 48,368 50,472 63,186 84,351 91,924 91,956

Total liabilities 9,564 11,616 10,926 13,756 33,148 33,668 35,469

Total shareholders’ equity 38,579 36,752 39,546 49,430 51,203 58,256 55,865

Gross margin 58.2% 51.5% 55.5% 65.3% 62.1% 59.8% 63.7%

R&D/sales 14.0% 16.6% 15.2% 15.1% 19.0% 20.1% 20.6%

SG&A/sales 13.6% 17.3% 14.5% 14.5% 15.1% 15.3% 14.6%

Return on sales 22.0% 14.3% 14.1% 26.3% 20.6% 18.3% 20.9%

Market capitalization 142,520 128,582 73,919 118,756 101,945 128,919 172,305

Hewlett-Packard

Total revenues 79,905 91,658 118,364 126,033 120,357 112,298 111,454

Cost of sales 60,621 69,178 89,370 95,654 89,074 83,180 81,505

R&D 3,563 3,591 3,543 2,959 3,399 3,135 3,447

SG&A 10,496 11,266 13,326 12,718 13,500 13,267 13,353

Net income 3,497 6,198 8,332 8,761 (12,650) 5,113 5,013

Total assets 76,138 81,981 113,331 124,503 108,768 105,676 103,206

Total liabilities 38,574 43,837 74,389 83,722 83.053 76,674 75,339

Total shareholders’ equity 37,564 38,144 38,942 40,781 22,436 27,269 26,731

Gross margin 23.9% 24.3% 24.2% 22.3% 21.8% 21.9% 23.0%

R&D/sales 4.5% 3.9% 3.0% 2.4% 2.8% 2.8% 3.1%

SG&A/sales 13.1% 12.3% 11.3% 10.1% 11.2% 11.8% 12.0%

Return on sales 4.4% 6.8% 7.0% 7.0% –% 4.6% 4.5%

Market capitalization 60,011 109,914 87,433 98,080 27,970 53,386 73,799

a Market capitalization figures for each company are based on the date the earnings were filed with the SEC.

715-456 Apple Inc. in 2015

Exhibit 6 (continued)

2004 2006 2008 2010 2012 2013 2014

Dellb

Total revenues 49,121 57,420 61,101 61,494 56,940 — —

Cost of sales 40,103 47,904 49,998 50,041 44,754 — —

R&D 460 498 665 661 1,072 — —

SG&A 4,352 5,948 6,966 7,302 8,102 — —

Net income 3,018 2,583 2,478 2,635 2,372 — —

Total assets 23,215 25,635 26,500 38,599 47,540 — —

Total liabilities 16,717 21,307 22,229 30,833 36,839 — —

Total shareholders’ equity 6,498 4,328 4,271 7,766 10,701 — —

Gross margin 18.4% 16.6% 18.2% 18.5% 21.4% — —

R&D/sales 0.9% 0.9% 1.1% 1.1% 1.9% — —

SG&A/sales 8.9% 10.4% 11.4% 11.9% 14.2% — —

Return on sales 6.1% 4.5% 4.1% 4.3% 4.2% — —

Market capitalization 103,272 52,270 15,964 26,850 22,280 — —

Lenovo

Total revenues 2,972 13,343 16,351 16,605 29,574 33,873 38,707

Cost of sales — — 13,902 14,815 26,128 29,800 33,643

R&D — — 230 214 450 624 732

SG&A — — 1700 1,406 2,342 2,735 3,303

Net income 135 22 484 129 473 635 817

Total assets — — 7200 8,956 15,861 16,882 18,357

Total liabilities — — 5587 7,350 13,413 14,202 15,332

Total shareholders’ equity — — — 1,701 2,361 2,667 3,010

Gross margin 13.6% 4.7% 15.0% 10.8% 11.4% 12.0% 13.1%

R&D/sales — — — 1.3% 1.5% 1.8% 1.9%

SG&A/sales — — — 8.5% 7.9% 8.1% 8.5%

Return on sales 4.5% 0.2% 3.0% 0.8% 1.6% 1.9% 2.1%

Market capitalization 2,708 3,380 5,943 6,766 9,172 10,378 11,497

Samsung

Total revenues 69,496 72,778 102,844 131,109 190,565 216,709 195,883

Cost of sales 44,898 50,921 76,109 87,050 120,015 130,803 121,857

R&D — — — 7,715 10,757 13,640 13,665

SG&A 14,626 14,117 21,621 22,251 — — —

Net income 9,148 6,720 4,685 13,396 19,075 24,537 19,042

Total assets 58,508 68,990 89,283 113,862 169,199 198,477 214,588

Total liabilities 27,645 28,342 35,931 38,104 54,084 56,322 54,914

Total shareholders’ equity 30,863 40,648 53,353 75,758 109,213 137,591 154,063

Gross margin 35.4% 30.0% 26.0% 33.6% 36.6% 39.4% 37.3%

R&D/sales — — — 5.9% 5.7% 6.3% 7.0%

SG&A/sales 21.0% 19.4% 21.0% 17.0% — — —

Return on sales 13.6% 8.1% 4.4% 10.6% 10.0% 11.3% 9.7%

Market capitalization 54,468 61,792 49,763 101,065 185,747 171,095 158,373

Source: Created by casewriter using data from Capital IQ, ThomsonOne, and company documents.

Note: All information is on a fiscal-year basis, unless noted otherwise. HP‘s fiscal year ends in October, Dell‘s in January,
Lenovo‘s in March, Intel‘s and Samsung‘s in December, and Microsoft‘s in June.

b Dell was taken private in 2013.

Apple Inc. in 2015 715-456

Exhibit 7a Worldwide Smartphone Market Shares by Vendor, 2009–2014

2009 2010 2011 2012 2013 2014

Samsung

3.2%

7.5%

19.0%

39.6%

31.0%

24.5%

Apple 14.5% 15.6% 18.8% 25.1% 15.1% 14.8%

Lenovo — — — 3.3% 4.5% 7.4%*

Huawei — — — 4.0% 4.8% 5.7%

LG — — — 3.6% 4.7% 4.6%

Nokia 39.0% 32.9% 15.6% 6.4% — —

HTC 4.7% 7.1% 8.8% 6.0% 2.0% 1.8%

RIM 19.9% 16.0% 10.3% 6.0% 1.9% 0.4%

Total shipments
(millions)

173.5

304.7

491.1

725.3

1,019.4

1,301.1

Source: Created by casewriter using data from ―In a Near Tie Apple Closes the Gap on Samsung in the Fourth Quarter as
Worldwide Smartphone Shipments Top 1.3 Billion for 2014,‖ IDC press release, January 29, 2015; ―Worldwide
Smartphone Shipments Top One Billion Units for the First Time,‖ IDC press release, January 27, 2014; ―Apple‘s iPhone
grew to 25.1% global market share in 2012,‖ Apple Insider, January 25, 2013, http://appleinsider.com/articles/13/01/
25/apples-iphone-grew-to-251-global-market-share-in-2012, accessed March 24, 2015; Nathan Olivarez-Giles,
―Smartphone Shipments Rose 61% Worldwide in 2011,‖ Los Angeles Times, February 6, 2012; and Lance Whitney,
―Apple, Android Surge in 2010; Nokia, RIM Slip,‖ CNET, February 7, 2011, http://www.cnet.com/news/apple-
android-surge-in-2010-nokia-rim-slip/.

Note: The sampling of market shares comes mainly from annual listings of the top-five smartphone makers, as measured by
IDC. Absence of a figure indicates that a company placed below the top five in a given year.

http://appleinsider.com/articles/13/01/

http://www.cnet.com/news/apple-

715-456 Apple Inc. in 2015

Exhibit 7b Overview of Smartphone Operating Systems and App Stores (as of late 2014)

Operating
System

Owner

Major Handset

Vendors

Licensing

Fee

Approximate
Number of

Available Apps

iOS

Apple

Proprietary

1.2 million

Windows

Mobile

Microsoft Microsoft No 300,000

Android Google Samsung, Lenovo,

Huawei, LG

No 1.4 million

Sources: Created by casewriter based on company websites and sources, including Dave Smith, ―Google Play has more apps
than Apple now, but it‘s still behind in one key area,‖ BusinessInsider, February 2, 2015, http://www.business
insider.com/google-play-vs-apple-app-store-2015-2; and Lance Whitney, ―Windows Phone Store hits more than
300,000 apps,‖ CNet, August 8, 2014, http://www.cnet.com/news/windows-phone-store-hits-more-than-300000-

apps/, accessed March 18, 2015.

Exhibit 7c Worldwide Smartphone Sales to End User by Operating System, 2006–2014
(% of total market share)

2006 2007 2008 2009 2010 2011 2012 2013 2014

Symbian

62.4%

63.5%

52.4%

46.9%

37.6%

18.7%

3.0%

NAc

RIM 6.9% 9.6% 16.6% 19.9% 16.0% 10.9% 5.0% 1.9% 0.4%

Microsoft 9.8% 12.0% 11.8% 8.7% 4.2% 2.1% 2.5% 3.3% 2.7%

iOS NA 2.7% 8.2% 14.4% 15.7% 18.9% 19.1% 15.1% 14.8%

Linux 17.6% 9.6% 7.6% 4.7% NA NA NA NA NA

Androida NA NA 0.5% 3.9% 22.7% 46.4% 66.4% 78.7% 81.5%

Othersb 3.3% 2.6% 2.9% 1.5% 3.8% 3.0% 5.0% 0.2% 0.6%

Source: Adapted from Gartner Smartphone Sales quarterly press releases between 2007 and 2014; ―Gartner Says Smartphone
Sales Surpassed One Billion Units in 2014,‖ Gartner press release (Egham, UK, March 3, 2015); ―Gartner Says Annual
Smartphone Sales Surpassed Sales of Feature Phones for the First Time in 2013,‖ Gartner press release (Egham, UK,
February 13, 2014); ―Gartner Says Worldwide Mobile Phone Sales Soared in Fourth Quarter of 2011 with 47 Percent
Growth,‖ Gartner press release (Egham, UK, February 15, 2012); ―Says Sales of Mobile Devices Grew 5.6 Percent in
Third Quarter of 2011; Smartphone Sales Increased 42 Percent,‖ Gartner press release (Egham, UK, November 15,
2011); ―Gartner Says Sales of Mobile Devices in Second Quarter of 2011 Grew 16.5 Percent Year-on-Year; Smartphone
Sales Grew 74 Percent‖ (Egham, UK, August 11, 2011); ―Gartner Says 428 Million Mobile Communication Devices Sold
Worldwide in First Quarter 2011, a 19 Percent Increase Year-on-Year‖ (Egham, UK, May 19, 2011); and ―Gartner Says
Worldwide Mobile Device Sales to End Users Reached 1.6 Billion Units in 2010; Smartphone Sales Grew 72 Percent in
2010‖ (Egham, UK, February 9, 2011).

aAndroid was introduced in 2008; data before that year were not applicable.

b Includes Bada in 2010 and 2011.

c Symbian included in ―Others‖ for 2013; Nokia stopped shipping Symbian phones in mid-2013.

http://www.cnet.com/news/windows-phone-store-hits-more-than-300000-

Apple Inc. in 2015 715-456

Exhibit 8 Worldwide Tablet Shipments by Operating System, 2010–2014

OS 2010 2011 2012 2013 2014

iOS

Sales (millions of units) 14.8 40.5 65.8 74.3 64.9

Market share (percent) 76.1 58.9 45.6 33.8 27.5

Android

Sales (millions of units) 4.6 26.4 75.1 137.5 159.5

Market share (percent) 23.6 38.4 52.1 62.5 67.6

Research In Motion (RIM)

Sales (millions of units) NA 0.9 0.8 0.4 —

Market share (percent) NA 1.3 0.6 0.2 —

Windows

Sales (millions of units) NA NA 1.3 6.5 10.9

Market share (percent) NA NA 0.9 3.0 4.6

Others

Sales (millions of units) 0.1 0.9 1.2 1.2 0.5

Market share (percent) 0.3 1.4 0.8 0.5 0.2

Source: Adapted from Tom Mainelli, ―Worldwide and U.S. Media Tablet 2012–2016 Forecast,‖ IDC Research, April 2012,
http://www.idc.com, accessed May 2012; and Jean Philippe Bouchard, ―Worldwide and U.S. Tablet Plus 2-in-1 2014–
2018 Forecast Update,‖ IDC Research, December 22, 2014, www.idc.com, accessed March 2015.

Exhibit 9 Worldwide Smartwatch Sales, 2013–2014 (thousands of units, millions US$)

2013

2014

Units Shipped

Revenue

Mkt. Share
(Revenue )

Units
Shipped

Revenue

Mkt. Share
(Revenue)

Samsung

800

240

33.8%

1,200

300

23%

Lenovo/Motorola — — — 500 125 10%

LG — — — 420 97 7%

Pebble 300 45 6.3% 700 91 7%

Garmin 200 60 8.4% 400 88 7%

Sony 250 50 7.0% 550 83 6%

Fitbit 450 59 8.2% 600 72 6%

Others 1,150 258 36.2% 1,625 283 34%

Source: Adapted from ―Top 10 Smartwatch Companies 2013 (Sales),‖ Smartwatch Group,
http://www.smartwatchgroup.com/top-10-smartwatch-companies-sales/; and ―Top 10 Smartwatch Companies
2014 (Sales),‖ Smartwatch Group, http://www.smartwatchgroup.com/top-10-smartwatch-companies-sales-2014/,
accessed March 22, 2015.

http://www.idc.com/

http://www.smartwatchgroup.com/top-10-smartwatch-companies-sales/%3B

http://www.smartwatchgroup.com/top-10-smartwatch-companies-sales-2014/

715-456 Apple Inc. in 2015

Endnotes

1 Apple Inc., Form 10-Q, for the Fiscal Quarter Ended December 27, 2014.

2 This discussion of Apple‘s history is based largely on Jim Carlton, Apple: The Inside Story of Intrigue, Egomania, and Business
Blunders (New York: Times Business/Random House, 1997); David B. Yoffie, ―Apple Computer—1992,‖ HBS No. 792-081
(Boston: Harvard Business School Publishing, 1992); and David B. Yoffie and Yusi Wang, ―Apple Computer—2002,‖ HBS No.
702-469 (Boston: Harvard Business School Publishing, 2002). Unless otherwise attributed, all quotations and all data cited in
this section are drawn from those two cases.

3 Carlton, Apple, p. 10.

4 ―Steve Jobs Takes Another Bite at Apple,‖ The Independent, January 6, 1997.

5 Yoffie, ―Apple Computer—1992.‖

6 David B. Yoffie, ―Apple Computer—1996,‖ HBS No. 796-126 (Boston: Harvard Business School Publishing, 1996).

7 Charles McCoy, ―Apple, IBM Kill Kaleida Labs Venture,‖ Wall Street Journal, November 20, 1995.

8 Louise Kehoe, ―Apple Shares Drop Sharply,‖ Financial Times, January 19, 1996.

9 David Kirkpatrick, ―The Second Coming of Apple,‖ Fortune, November 9, 1998.

10 David Gebler, ―Illuminating Apple‘s Culture of Secrecy,‖ Portofolio.com, April 17, 2012, http://www.
portfolio.com/companies-executives/2012/04/17/david-gebler-on-how-apple-can-shed-its-culture-of-secrecy#
ixzz1u5HXYOz7, accessed May 2012.

11 Walter Isaacson, Steve Jobs (New York: Simon and Schuster, 2011), p. 569.

12 ―MacBook Air and the environment,‖ http://www.apple.com/macbook-air/environment.html, accessed March 2010.

13 ―IDC Expects PC Shipments to Fall by -6% in 2014 and Decline through 2018,‖ IDC press release, March 4, 2014.

14 See Angelo Zino, ―Computers: Hardware,‖ S&P Capital IQ Industry Survey (New York: September 2014), p. 26; ―IDC
Expects PC Shipments to Fall by -6% in 2014 and Decline through 2018,‖ IDC press release; and ―PC Leaders Continue Growth
and Share Gains as Market Remains Slow,‖ IDC press release, January 12, 2015.

15 IDC (International Data Corp.) data, as cited in Megan Graham-Hackett, ―Computers: Hardware,‖ Standard & Poor‘s
Industry Surveys, December 8, 2005, p. 7.

16 Dylan Cathers, ―Computers: Hardware,‖ Standard & Poor‘s Industry Surveys, October 27, 2011, p. 15; and Angelo Zino,
―Computers: Hardware,‖ S&P Capital IQ Industry Surveys, September 2014.

17 FY 2014 financial results for Acer, ASUS, HP, and Lenovo, and FY 2013 results for Dell from ThomsonOne, accessed
February 11, 2015; see also Charles Arthur, ―How the ‗Value Trap‘ Squeezes Windows PC Manufacturers,‖ The Guardian,
January 9, 2014, http://www.theguardian.com/technology/2014/jan/09/pc-value-trap-windows-chrome-hp-dell-lenovo-
asus-acer, accessed February 11, 2015, which reached a similar conclusion for the same companies for 2013.

18 Peter Misek, Jason North, and Billy Kim, ―Computer Hardware—Cutting HP and Dell Estimates: Checks Indicate PC Sales
Slowing Materially,‖ Jefferies, March 15, 2012, p. 9; and James Chiu and Kevin YH Chen, ―Lenovo: Premium Valuation
Justified; Initiate with OW,‖ Piper Jaffray, March 9, 2012, p. 13.

19 Gartner Personal Computer Quarterly Statistics Worldwide Database, 2/12, cited in Mark Moskowitz, Anthony Luscri, Mike
Kim, Gokul Hariharan, Alvin Kwock, John DiFucci, Sterling Auty, Tien-tsin Huang, and Harlan Sur, ―Global Technology: IT
Spending Pulse: 2012 Off to a Good Start in Most Tech Segments; Lifting PC and Tablet Forecasts,‖ JP Morgan, March 13, 2012,
p. 29. See Rajani Singh, ―Worldwide PC 2014–2018 Forecast Update: November 2014,‖ IDC, December 29, 2014,
http://www.idc.com/getdoc.jsp?containerId=252724&pageType=PRINTFRIENDLY, accessed February 10, 2015.

20 Rajani Singh and Linn Huang, ―Worldwide and U.S. PC Client Sub Form Factor 2012–2015 Forecast,‖ IDC, March 2012, p. 4;
Rajani Singh and David Daoud, ―Worldwide PC 2011–2015 Forecast Update: December 2011,‖ IDC, December 2011, p. 7; and
Singh, ―Worldwide PC 2014–2018 Forecast Update: November 2014,‖ p. 6.

21 Thomas W. Smith, ―Computers: Hardware,‖ Standard & Poor‘s Industry Surveys, October 22, 2009, p. 18.

http://www/

http://www.apple.com/macbook-air/environment.html

http://www.theguardian.com/technology/2014/jan/09/pc-value-trap-windows-chrome-hp-dell-lenovo-

http://www.idc.com/getdoc.jsp?containerId=252724&pageType=PRINTFRIENDLY

Apple Inc. in 2015 715-456

22 ―Why Buy a Generic PC?‖ PC Generic, April 30, 2009, http://www.pcgeneric.com/articles/5131/Why-buy-a-generic-PC,
accessed March 2010; and ―Profiting in China‘s White-Box PC Market,‖ Gartner Research, August 21, 2012.

23 ―PC Market Stumbles on HDD Shortage While U.S. Market Sees World Annual Growth Since 2011,‖ IDC press release,
January 11, 2012, http://www.idc.com/getdoc.jsp?containerId=prUS23261412, accessed April 2012.

24 Chiu and Chen, ―Lenovo,‖ p. 1.

25 Kulbinder Garcha, Deepak Sitaraman, Vlad Rom, Alban Gashi, Talal Khan, and Matthew Cabral, ―Hewlett-Packard: Still in
Transition,‖ Credit Suisse, February 23, 2012, p. 1, accessed April 2012; and Kulbinder Garcha, Deepak Sitaraman, Vlad Rom,
Alban Gashi, Talal Khan, and Matthew Cabral, ―Hewlett-Packard: Transition continues with reorganization,‖ Credit Suisse,
March 21, 2012, p. 1, accessed April 2012.

26 ―PC Market Stumbles on HDD Shortage While U.S. Market Sees World Annual Growth Since 2011,‖ IDC press release.

27 ―PC Leaders Continue Growth and Share Gains as Market Remains Slow,‖ IDC press release, January 12, 2015.

28 See Connie Guglielmo, ―Dell Officially Goes Private: Inside The Nastiest Tech Buyout Ever,‖ Forbes, October 30, 2013,
http://www.forbes.com/sites/connieguglielmo/2013/10/30/you-wont-have-michael-dell-to-kick-around-anymore/,
accessed February 10, 2015.

29 See Shane Rao, ―Worldwide PC and x86 Server Microprocessor 4Q14 Vendor Shares,‖ IDC, January 28, 2015.

30 Clyde Montevirgen and Karan Kawaguchi, ―Semiconductors,‖ Standard & Poor‘s Industry Surveys, May 31, 2007, p. 25.

31 ―Global market share held by operating systems of Desktop PCs from January 2012 to December 2014,‖ Statista, January
2015, http://www.statista.com/statistics/218089/global-market-share-of-windows-7/, accessed February 11, 2015.

32 David B. Yoffie, Dharmesh M. Mehta, and Rudina I. Suseri, ―Microsoft in 2005,‖ HBS Case No. 705-505 (Boston: Harvard
Business School Publishing, 2006).

33 Arik Hesseldahl, ―What‘s Behind Apple‘s iWork?‖ BusinessWeek Online, August 10, 2007, via Factiva, accessed April 2010.

34 Gary Marshall, ―Why you should seriously consider a Chromebook as your next laptop,‖ TechRadar, May 23, 2014,
http://www.techradar.com/us/news/mobile-computing/don-t-fear-google-s-chromebooks-they-won-t-go-extinct-like-
netbooks-did-1249814, accessed March 9, 2015; Gregg Keizer, ―Mac and Chromebook Sales Erode Windows PCs‘ Retail Share,‖
ComputerWorld, September 26, 2014, http://www.computerworld.com/article/2687742/mac-and-chromebook-sales-erode-
windows-pcs-retail-share.html, accessed March 3, 2015; and Singh, ―Worldwide PC 2014–2018 Forecast Update: November
2014.‖

35‖PC Leaders Continue Growth and Share Gains as Market Remains Slow,‖ IDC press release, January 12, 2015.

36 ―Windows 7 Release May Test Apple‘s Winning Streak,‖ Reuters News, October 14, 2009, via Factiva, accessed March 2010.

37 Dylan Cathers, ―Computer Hardware Industry Reports,‖ Standard & Poor‘s NetAdvantage Database, April 19, 2012, p. 6,
accessed April 2012; and ―PC Leaders Continue Growth and Share Gains as Markets Remain Slow,‖ IDC press release.

38 Brent Schlender, ―How Big Can Apple Get?‖ Fortune, February 21, 2005, p. 66.

39 Apple Inc., Form 10-K, October 27, 2014 (Cupertino, CA, 2011), p. 32.

40 Katie Hafner, ―Inside Apple Stores, a Certain Aura Enchants the Faithful,‖ New York Times, December 27, 2007, p. C1, via
Factiva, accessed December 2007.

41 Isaacson, Steve Jobs, p. 389.

42 Thomas Ricker, ―iSuppli: New iPod Nano Costs Apple Less than $83 in Components,‖ September 19, 2007,
http://www.engadget.com/2007/09/19/isuppli-new-ipod-nanos-cost-apple-just-59-and-83-in-component/, accessed March
2010.

43 Isaacson, Steve Jobs, p. 405.

44 iTunes was available from 2001 with the original iPod, but the functionality as a store did not come until 2003.

45 Chris Taylor, ―The 99¢ Solution,‖ Time, November 17, 2003, p. 66, via Factiva, accessed November 2007.

46 ―iTunes Store Tops 10 Billion Songs Sold,‖ Apple Inc. press release (Cupertino, CA, February 25, 2010).

http://www.pcgeneric.com/articles/5131/Why-buy-a-generic-PC

http://www.idc.com/getdoc.jsp?containerId=prUS23261412

http://www.forbes.com/sites/connieguglielmo/2013/10/30/you-wont-have-michael-dell-to-kick-around-anymore/

http://www.statista.com/statistics/218089/global-market-share-of-windows-7/

http://www.techradar.com/us/news/mobile-computing/don-t-fear-google-s-chromebooks-they-won-t-go-extinct-like-netbooks-did-1249814

http://www.computerworld.com/article/2687742/mac-and-chromebook-sales-erode-windows-pcs-retail-share.html

http://www.engadget.com/2007/09/19/isuppli-new-ipod-nanos-cost-apple-just-59-and-83-in-component/

715-456 Apple Inc. in 2015

47 Apple, Inc., December 21, 2001, Form 10-K405 (filed December 21, 2001); Apple, Inc., December 19, 2002, Form 10-K (filed
December 19, 2002); Apple, Inc., May 13, 2003, Form 10-Q (filed May 13, 2003); and ―Number of iPods sold through 2002:
600,000,‖ Apple press release, July 2002, http://www.apple.com/pr/products/
ipodhistory/, accessed May 2012.

48 Bill Shope, Elizabeth Borbolla, and Mark Moskowitz, ―Apple Computer: iPod Economics II,‖ JP Morgan, May 26, 2005, p. 26;
and Ronald Grover and Peter Burrows, ―Universal Music Takes on iTunes,‖ BusinessWeek, October 22, 2007, p. 30, via Factiva,
accessed October 2007.

49 Shope et al., ―Apple Computer: iPod Economics II,‖ p. 26; and Grover and Burrows, ―Universal Music Takes on iTunes,‖ pp.
8–10.

50 Michael Arrington, ―Spotify Closing New Financing at €200 Million Valuation, Music Labels Already Shareholders,‖
TechCrunch, August 9, 2009, http://techcrunch.com/2009/08/04/spotify-closing-new-financing-at-e200-million-valuation-
music-labels-already-shareholders/, accessed April 2010.

51 Hannah Karp, ―Apple iTunes Sees Big Drop in Music Sales,‖ Wall Street Journal, October 24, 2014,
http://www.wsj.com/articles/itunes-music-sales-down-more-than-13-this-year-1414166672, accessed February 10, 2015.

52 Isaacson, Steve Jobs, p. 474.

53 Donna Fuscaldo and Mark Boslet, ―Jobs Says Apple to Rename Itself Apple Inc.,‖ Dow Jones News Service, January 9, 2007,
via Factiva, accessed March 2010.

54 Darrell Etherington, ―iPhone 4S: Siri‘s international limitations,‖ October 14, 2011, http://gigaom.com/
apple/iphone-4s-siris-international-limitations/, accessed April 2012.

55 ―Sprint‘s commitment to Apple might be less than expected,‖ S4GRU, February 28, 2012, http://s4gru.com/
index.php?/topic/339-sprints-committment-to-apple-might-be-less-than-expected/, accessed May 2012.

56.See Neil Hughes, ―Apple & Samsung combine for 106% of handset profits as competitors continue to bleed cash,‖
AppleInsider, May 8, 2014, http://appleinsider.com/articles/14/05/08/apple-samsung-combine-for-106-of-handset-profits-as-
competitors-continue-to-bleed-cash, accessed March 3, 2015; ―Gartner Says Smartphone Sales Surpassed One Billion Units in
2014,‖ Gartner press release, March 3, 2015; and Brian X. Chen, ―Apple Grabs 93% of the Handset Industry‘s Profit, Report
Says,‖ New York Times Bits, February 9, 2015, http://bits.blogs.nytimes.com/2015/02/09/apple-grabs-93-of-the-handset-
industrys-profit-report-
says/?mabReward=A4&action=click&pgtype=Homepage&region=CColumn&module=Recommendation&src=rechp&WT.na
v=RecEngine&_r=0, accessed February 25, 2015.

57 See Apple Inc., Form 10-Q for the period ending December 27, 2014, p. 26, filed January 28, 2015; and ―Worldwide
Smartphone Growth Forecast to Slow from a Boil to a Simmer as Prices Drop and Markets Mature,‖ IDC press release,
December 1, 2014.

58 Andy Rassweiler, ―iPhone 4S Carries BOM of $188, IHS iSuppli Teardown Analysis Reveals,‖ IHS iSuppli Teardown
Analysis, October 20, 2011, http://www.isuppli.com/Teardowns/News/Pages/iPhone-4S-Carries-BOM-of-$188,-IHS-
iSuppli-Teardown-Analysis-Reveals.aspx, accessed April 2012.

59 Arik Hesseldahl, ―Tearing Down the iPhone 3GS,‖ BusinessWeek, June 23, 2009, via Factiva, accessed April 2010.

60 ―Fair Labor Association Begins Inspections of Foxconn,‖ Apple press release, http://www.apple.com/pr/
library/2012/02/13Fair-Labor-Association-Begins-Inspections, February 13, 2012.

61 Jason Kincaid, ―Apple Has Sold 450,000 iPads, 50,000 Million iPhones to Date,‖ April 8, 2010,
http://techcrunch.com/2010/04/08/apple-has-sold-450000-ipads-50-million-iphones-to-date/, accessed May 2012; and Steve
Ranger, ―iOS versus Android. Apple App Store versus Google Play: Here comes the next battle in the app wars,‖ ZDNet,
January 16, 2015, http://www.zdnet.com/article/ios-versus-android-apple-app-store-versus-google-play-here-comes-the-
next-battle-in-the-app-wars/, accessed February 15, 2015.

62 Ranger, ―iOS versus Android.‖

63 Walter S. Mossberg, ―Apps that Make the iPhone Worth the Price,‖ Wall Street Journal, March 26, 2009.

64 Apple Inc., Apple 10-K, October 27, 2014 (Cupertino, CA, p. 29), accessed February 2014.

65 Ranger, ―iOS versus Android.‖

http://www.apple.com/pr/products/

Spotify Closing New Financing At €200 Million Valuation; Music Labels Already Shareholders

http://www.wsj.com/articles/itunes-music-sales-down-more-than-13-this-year-1414166672

http://gigaom.com/

http://s4gru.com/

http://appleinsider.com/articles/14/05/08/apple-samsung-combine-for-106-of-handset-profits-as-competitors-continue-to-bleed-cash

http://www.isuppli.com/Teardowns/News/Pages/iPhone-4S-Carries-BOM-of-%24188%2C-IHS-iSuppli-Teardown-Analysis-Reveals.aspx

http://www.apple.com/pr/

Apple Has Sold 450,000 iPads, 50 Million iPhones To Date

http://www.zdnet.com/article/ios-versus-android-apple-app-store-versus-google-play-here-comes-the-

Apple Inc. in 2015 715-456

66 ―In a Near Tie, Apple Closes the Gap on Samsung in the Fourth Quarter as Worldwide Smartphone Shipments Top 1.3
Billion for 2014,‖ IDC press release, January 29, 2015.

67 See Rob Price, ―Android Just Achieved Something it Will Take Apple years to Do,‖ Business Insider U.K., online, February 2,
2015, http://U.K..businessinsider.com/android-1-billion-shipments-2014-strategy-analytics-2015-2, accessed February 17,
2015.

68 ―In a Near Tie, Apple Closes the Gap on Samsung in the Fourth Quarter,‖ IDC press release.

69 Gerry Shih, ―After China smartphone success, Lenovo plans leap forward overseas,‖ Reuters, August 14, 2014,
http://www.reuters.com/article/2014/08/14/us-lenovo-results-idUSKBN0GE01B20140814, accessed February 15, 2015; and
―In a Near Tie, Apple Closes the Gap on Samsung in the Fourth Quarter,‖ IDC press release.

70 See Xiaohan Tay et al., ―Xiaomi: A Disruptive Force in China‘s Smartphone Market,‖ IDC Vendor Profile, IDC, May 2014;
―In a Near Tie, Apple Closes the Gap on Samsung in the Fourth Quarter,‖ IDC press release; and Eva Dou, ―Xiaomi Expects
Sales to Surge in 2015,‖ Wall Street Journal online, http://www.wsj.com/articles/xiaomi-expects-sales-to-surge-in-2015-
1425532934, accessed March 9, 2015.

71 See Ranger, ―iOS versus Android.‖

72 David B. Yoffie, Juan Alcacer, and Renee Kim, ―HTC Corp. in 2012,‖ HBS No. 712-423 (Boston: Harvard Business School
Publishing, May 2012).

73 Data are for the first three quarters of 2014; see ―Smartphone Apps Processor Revenue Jumped 16 Percent in Q3 2014,‖
Strategy Analytics, January 27, 2015, http://www.strategyanalytics.com/default.aspx?mod=pressreleaseviewer&a0=5638;
―Qualcomm, Apple, MediaTek grab 80% share in smartphone; applications processor market,‖ Telecom Lead, July 16, 2014,
http://www.telecomlead.com/telecom-statistics/qualcomm-apple-mediatek-grab-80-share-smartphone-applications-
processor-market-51828; and ―Smartphone Apps Processor Revenue Reached $5.2 Billion in Q2 2014 says Strategy Analytics,‖
PR Newswire, September 29, 2014, http://www.prnewswire.com/news-releases/smartphone-apps-processor-revenue-
reached-52-billion-in-q2-2014-says-strategy-analytics-277467001.html, accessed March 23, 2015.

74 Erika Brown, Elizabeth Corcoran, and Brian Caulfield, ―Apple Buys Chip Designer,‖ Forbes.com, April 23, 2008, via Factiva,
accessed April 2010; and Ashlee Vance and Brad Stone, ―Apple Buys Intrinsity, a Maker of Fast Chips,‖ New York Times, April
27, 2010.

75 Niley Patel, ―Apple sues Samsung: a complete lawsuit analysis,‖ The Verge, April 19, 2011,
http://www.theverge.com/2011/04/19/apple-sues-samsung-analysis/, accessed April 2012.

76 Isaacson, Steve Jobs, p. 396.

77 Isaacson, Steve Jobs, p. 512.

78 Peter Sayer, ―Ericsson seeks US sales ban of Apple iPhone, iPad in patent lawsuit barrage,‖ PCWorld, February 27, 2015,
http://www.pcworld.com/article/2890052/ericsson-seeks-to-block-sales-of-apple-products-in-us-stepping-up-patent-
dispute.html, accessed March 9, 2015.

79 Isaacson, Steve Jobs, p. 567.

80 Isaacson, Steve Jobs, p. 527.

81 ―Apple Sells over 300,000 iPads First Day,‖ Apple Inc. press release (Cupertino, CA, April 5, 2010).

82 See Apple 10-K, 2012 and 2014.

83 Tom Mainelli, ―Worldwide and U.S. Media Tablet 2012–2016 Forecast,‖ April 2012, p. 12.

84 Online Publishers Association, ―A Portrait of Today‘s Tablet Users,‖ June 2011, http://onlinepubs.
ehclients.com/images/pdf/MMF-OPA_–_Portait_of_Todays_Tablet_User_–_Jun2211_%28Final-Public%29, accessed
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