$20 BILLION: Apple has always been
infamous for their high prices and large profit margins. While the rest of the manufacturing
industry has net margins of 2-5%, Apple has a net margin of 25%. But, over the past couple of years,
they’ve taken this to the even next level. Of course, they’ve jacked up prices of iPhones and
introduced high margin services but I’m talking about something much more profitable. I’m talking
about the largest brand placement operation that has ever taken place. If you use an iPhone,
Safari and Siri have probably redirected you to Google tens of thousands of times.
This probably felt quite natural given that Google is the most dominant search engine. I mean,
imagine if Apple had always redirected you to Bing. That would’ve felt so wrong but that may
have actually been more likely than you might think. You see, Apple didn’t choose to integrate
Google just because it was the popular choice or to diss Microsoft. The only reason they decided to
integrate Google was because they were willing to pay them. At first, it was a much more reasonable
amount. In 2014, it was about a billion dollars. But since then, this number hasn’t doubled or
tripled or even quintupled, it has straight up grown 20X to $20 billion. And the best part is
that this is basically 100% profit for Apple. For perspective, the iPhone user count has only
grown by about 3X during the same time period. So, Google is paying over 6 times more for each user.
This is not only a ridiculous amount to pay for search engine integration but it’s a ridiculous
amount even for Apple as a whole. Apple makes between $95 to $100 billion every year. So, the
$20 billion that Google is paying them literally accounts for 20% of Apple’s entire net profit.
In other words, Apple could reduce everything else they do to a breakeven operation and just based
on the royalty from Google, they would boast a valuation of $600 billion aka world’s 10th largest
company. And this massive payment just scratches the surface of Apple’s mega monetization plan. So,
join me as we take a look at Apple’s brilliant strategy to outlive the stagnation of the iPhone.
iPHONE DEPENDENCY: We all know that Apple’s biggest product is
the iPhone and that it’s still the core of their business, but do you know just how dependent they
really are? Well, in the first quarter of this year, Apple pulled in a total of $94.8 billion
worth of revenue. But, out of this $94.8 billion, $51 billion was directly from iPhone sales. In
other words, over half of Apple’s entire revenue still comes from selling iPhones. This becomes
even worse when you consider that the rest of their revenue is directly linked to the iPhone.
Sure, Apple might have hundreds of millions of users for iCloud and Apple Music and the App Store
but how many of these people would still use these services if they didn’t have an iPhone. The same
thing could be said about Apple’s other physical products as well. How many people buy an Apple
Watch and a Macbook just because they’ve already bought into the Apple ecosystem? So, despite being
a $3 trillion company, Apple is still like 90% dependent on their hero product: the iPhone.
This is a massive problem because iPhone sales peaked way back in 2015 which is somehow almost a
decade ago at this point. And it’s no wonder why. Smartphones have basically reached their peak form
which makes it less and less appealing to upgrade with every iteration. But there is a silver lining
to all of this. While Apple is selling less iPhones in total, the people who do buy iPhones
nowadays tend to be people who are converting from Android. In fact, back in 2016, iPhones only
accounted for 33% of smartphones sales in the US. But, by the end of 2020, this number had nearly
doubled to 65%. This is not just the case in the US. Apple is setting records in China and they
just recently started opening stores in India as well. So, while Apple has had a tough time getting
people to upgrade their iPhones, they’ve actually done really well in terms of retaining iPhone
users and getting Android users to switch teams. So, the key for Apple has very much been to focus
on monetizing existing iPhone users as opposed to selling more iPhones which brings us into phase
1 of Apple’s monetization strategy. Given that Apple is very much a hardware company as much
as they are a software company, they started off with launching smartphone adjacent products. This
of course includes smartphone cases, the Apple Watch, Airpods, and AirTags. At first, many of
these products got quite a bit of resistance especially the Airpods. Paying $150 for a pair
of wireless headphones seemed ludicrous 6 years ago. But nowadays, that’s the norm. In fact, you’d
probably be the odd one out if you were using wired headphones in public. Around the same time,
Apple also experimented with pricing. They were very much pushing the boundaries of what people
were willing to pay for iPhone. What started off as a $650 phone rose to $750 and $800 and
a $1000 and eventually $1100 which is where the pro max starts now. They’ve actually chilled out
on raising prices for 5 years now but there are rumors that the iPhone 15 will have a $100 price
increase so this may not last for much longer. No matter how many times Apple increase iPhone
prices though, there’s only so much profit that can be made from hardware given that
you have to pay for factories and materials and logistics and shipping and all of that. Software
on the other hand is far more lucrative which brings us into phase 2 of Apple’s grand plan.
MONETIZE MONETIZE MONETIZE:
Apple has taken a completely different approach when it comes to software. With hardware,
they always positioned themselves as the premium brand with the premium products that came in
at a premium price. But with software, they’ve positioned themselves extremely compeititvely.
In fact, in most cases, their pricing is identical to the compeition. Take iCloud for example. Apple
charges $1 for 50 GB, $3 for 200 GB, and $10 for 2 TB. Now, guess what Google charges for cloud
storage. Well, their basic plans starts at 100 GB for $2 which is the same as $1 for 50 GB. From
there, they have the same 200 GB for $3 and 2 TB for $10. The same thing can be said about Apple
Music as well. For student plans, Spotify charges $5 while Apple charges $6. For individual plans,
Spotify charges $10 while Apple charges $11. And for family plans, Spofity charges $16 while Apple
charges $17. Till the end of last year, this small $1 pricing discrepancy wasn’t even a thing either.
This has given Apple a pretty unique monopoly. While there’s nothing fundamentally special
about Apple’s services in terms of pricing or features, given that their entire brand image
has been built around premium products, people naturally associate Apple’s services with being
superior as well even if they aren’t. So, when the average iPhone user is choosing between Spotify
and Apple Music or iCloud and Google Drive, they tend to just go with the Apple’s offering. This is
only propelled by the fact that Apple’s offerings tend to have better integration with Apple’s
devices well for obvious reasons. This has allowed Apple to reach just a ridiculous number of paid
subscribers, over 900 million to be exact. For perspective, even Netflix only has a total of 232
million subscribers and getting paid subscribers is literally their main business. For Apple,
it’s a sidequest. This number becomes even crazier when you consider that there’s “only” 1.36 billion
iPhone users. This means that nearly 70% of all iPhone users have some sort of paid Apple
subscription. Now of course, this isn’t exactly true as Apple’s most dedicated userbase likely
has multiple Apple subscriptions which skews the numbers but you get the idea. Apple is killing
it with services and that’s just the obvious services. We can’t talk about Apple’s services
without mentioning the almighty App Store which literally has a trillion dollar GDP. If the Apple
App Store was a country, they would have the 16th highest GDP in the world. Now, Apple doesn’t get
a commission on most of this activity as most of it doesn’t go directly through Apple. But,
for the transactions that do pass through Apple, they collect a solid 15 to 30% which translates
to somewhere between $70 and 85 billion. And given that shipping software is magnitudes
cheaper than shipper hardware, this is far more profitable for Apple than selling iPhones. Going
back to the first quarter of 2023, services only accounted for about a fifth of Apple’s revenue.
In terms of gross profit, however, services accounted for over a third and this is only
growing by the day. Before you know it, services will account for over half of Apple’s profit but
all of that is nothing in comparison to Apple’s real money driver which brings us into phase 3.
THE WALLED GARDEN: When people refer to Apple’s products,
they often talk about a walled garden. For obvious reasons, Apple likes to promote people
to use Apple products over other products. So, they tend to make their integrations with
third party products substantially worse than the integrations with their own products like
iMessage and Facetime. This has prompted many users to go with Apple for everything. This in
itself is a pretty smart strategy in terms of getting more customers and increasing loyalty
but it goes much deeper than just that. All of a sudden, the only way to reach certain people is to
go through Apple as they’ve made it substantially harder for other companies to track iPhone users.
They like to brand this as a privacy effort and I’m sure that’s part of the equation but the other
part is to get ultimate control over these users. This is why they’re able to demand ridiculous sums
of money like $20 billion from Google every single year. But it looks like they’ve got something else
up their sleeve as well: an ad platform. Now, there have been rumors about this for several
months but at this point, an ad platform is almost a confirmed fact. If you look up ads on Apple’s
careers page, you get 75 results. Distinguished Engineer ad platforms. Engineering Manager,
ad platforms. Senior Product Manger, ad platforms. They’re not even trying to hide it. They’re
literally calling it an ad platform themself. And I cannot understate just how powerful this
is. Google and Facebook have literally managed to build trillion dollar companies around just
serving ads and that’s based on a much more generic userbase. Apple, on the other hand, has
a highly concentrated userbase of well off people because well they’re phones cost a lot of money.
In fact, the median household income of an iPhone user is $85,000 and that was as of 2014.
By now, this number is likely over a $100,000 making iPhone users the absolute perfect target
for ads. And given that Google and Facebook can’t effectively market to these people,
companies will have to go through Apple and pay whatever stupid price they decide to go
with and this is really the endgame for Apple. They’ve come to the realization
that they’ll probably never create a product that’ll outsell the iPhone.
They also won’t be escaping iPhone dependency anytime soon but maybe that’s not such a bad
thing if they’re able to rethink the monetization aspect. The key is to switch from depending on
iPhone sales to depending on iPhone usage because while iPhone sales are going down, usage is only
going up. That’s exactly what they’ve been doing with the App Store and their services and their
predatory deals with Google and now their ad platform. And given that these avenues are far
more profitable than selling phones, Apple’s income statements are only going to become
more insane as they head towards becoming a $10 trillion giant. Apple has clearly just decided
to embrace their dependency on the iPhone but a tech company that has actually managed to
escape their dependency on their hero product is Microsoft. Check out this video to learn more.