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Is Apple’s Meteoric Rise Leading to a Devastating Drop?

The very business model that made the company so wildly successful could eventually cause its downfall.

(originally published by Booz & Company)

Bottom LineApple’s enormous growth over the past decade is due in large part to the company’s tight monitoring of its global supply chain and a tenacious drive to produce cutting-edge products and content. But could these keys to success also inhibit the company’s evolution?

From the iPod to the iPhone to the iPad, Apple’s products have occupied an increasingly prominent role in the worldwide economy over the past decade. By spring 2012, the company’s market capitalization had grown to US$570 billion, eclipsing the values of Dell, Hewlett-Packard, Google, Microsoft, and Yahoo combined. At that point, Apple’s stock made up 4 percent of the Standard and Poor’s 500 and almost 18 percent of the Nasdaq 100. In the modern era, Apple’s moves clearly have ripple effects that extend far beyond the company’s own shareholders, potentially swaying global markets.

Explanations of Apple’s meteoric rise typically focus on one particular aspect of its performance—its integrated product design, for example, or its innovative marketing strategy. But a new study takes a holistic view of Apple’s business model since 2003, examining the company’s supply chain as it flows from raw resources to retail stores, and offers a startling take on some of the firm’s perceived strengths. The authors warn that the same factors that have driven Apple’s success in recent years—namely, end-to-end control over its supply chain and a relentless focus on innovation—may undermine its future growth. Its strengths may become its weaknesses.

The year 2003 represented a defining moment in Apple’s history, the authors argue, because it was the first time the company successfully integrated two new technological platforms: the iPod and the iTunes music store. With newfound mastery over both hardware and content, Apple used its multichannel approach to effectively “own the consumer,” as the authors put it, and “drive consumers into its ecosystem and then hold them there.”  Apple content could be played only on the company’s devices, an important aspect of the business model that granted legal and technological protection to suppliers and manufacturers along the supply chain.

Apple used its multichannel approach to “drive consumers into its ecosystem and hold them there.”

And Apple’s stock price history backs up the importance of this technological turning point. Whereas Steve Jobs’s return to the company in 1997 has been widely lauded as the turning point for Apple, the company’s share price actually tumbled by the end of 2000. It was only after the third-generation iPod was introduced in tandem with the iTunes music store that Apple’s stock began the steep climb to high valuations that have largely persisted to this day.

Indeed, the multichannel model proved so successful that Apple essentially replicated it for the iPhone and iPad. Customers could purchase the devices at any number of online sites, big-box retailers, or Apple’s own outlets. But to get new content, customers had to come to iTunes. And Apple’s ability to own the consumer even extended to other retail chains: The company placed its in-store displays and sales staff in many big-box outlets, which were desperate to snare the lucrative Apple customer even though it meant competing with Apple’s own physical and online stores.

But some vaunted elements of Apple’s business model are cause for concern, the authors write. Apple bases its manufacturing and assembly operations in Southeast Asia, mainly China, before the products are shipped around the globe to European and U.S. distribution centers. Apple exerts unparalleled corporate power over its entire supply chain, demanding extreme flexibility among its suppliers. But this close control is accompanied by an association with inhumane labor practices in China that has caused a significant public backlash. A company with a cutting-edge identity shouldn’t have to rely on this type of “woefully outdated” physical supply chain and the exploitation of cheap labor costs, the authors note.

And then there are the rivalries that threaten further growth—both from other companies and from Apple’s own product lines. In recent years, competitors have found it relatively easy to mimic Apple’s content supply chain, and rival multichannel platforms and devices, whether the Android or the Samsung Galaxy, have loosened Apple’s stranglehold on the market. Perhaps more worrying, Apple faces increased competition from itself, as each new product launch risks rendering previous devices obsolete. For example, iPod sales plunged after the release of the iPhone because consumers now had a music player in their mobile phone, just as the sales of desktop computers dipped with the introduction of laptops. The iPad could further cannibalize the company’s product lines because consumers will now have one device that lets them browse the Web, check email, use apps, and listen to music. In short, the authors argue, Apple’s focus on innovation risks leaving the company vulnerable to the inherent limits of a business model that depends on “revolutionary products to sustain its current profitability and expand at an above-average market rate.”

It also doesn’t help that Apple further clouds the competitive picture by forcing big-box retailers to compete against its own smaller, boutique stores. By planning to make iPad versions of hit video games and sell them through the Apple store, Apple puts itself in direct competition with gaming devices that represent a significant source of sales for big-box outlets.

Finally, Apple has always resisted developing less-pricey products for emerging markets—a strategy in line with a company seeking a luxurious brand image. But how long can the company cling to this strategy? In China, for example, Apple has the smallest piece of the smartphone pie, losing market share to the Android and Nokia’s Symbian mainly because these handsets cost much less than an iPhone.

And although Apple’s customer base has always been characterized as loyal, the authors argue that Apple’s pre-2003 stock prices show that passionate consumers likely weren’t the primary factor behind Apple’s expansion. It was the multichannel approach that finally brought in substantial revenue streams, and Apple can’t count entirely on friendly consumers to ensure growth. After all, Microsoft’s fade from dominance since 1999 and Cisco’s similar fade since 2000 illustrate that companies with a leading market position don’t always get to keep it.

Source: Owning the Consumer—Getting to the Core of the Apple Business Mode, Johnna Montgomerie and Samuel Roscoe (both University of Manchester, U.K.), Accounting Forum, Dec. 2013, vol. 37, no. 4

Matt Palmquist

Matt Palmquist is a freelance business journalist based in Oakland, Calif.

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