Why Apple Has Reached A Crossroad And Needs iTV

In my last article I wrote that:

The key attribute companies that grow for decades possess is not only the growth potential of its current key products, but also the ability of its management and employees to continually create new products that grow into key ones.

The company that has most obviously fulfilled these criteria over the last decade is Apple (AAPL). The iPod, iPhone and iPad were all products that created new markets, and in doing so generated enormous value for Apple.

In this article, I will argue that Apple's success at creating whole new markets may not continue and attempt to bring some balance to the debate over Apple's future. For a more detailed analysis of the roots of long term growth, please visit my last article entitled, "Why Google beats Facebook as a Phil Fischer Stock".

Apple's Competitive Advantage

Unlike Google (GOOG), Microsoft (MSFT) and Facebook (FB), Apple's key competitive advantage lies in the physical attraction of its products. With the iPod, iPhone and iPad, Apple was able to package good software into products that were not only innovatively sized, but also physically attractive. This physique is a major reason why Apple's products have been tremendously successful. In other words, one of Apple's most important competitive advantage lies with the physics of its hardware.

The God of Gaps

Figure - Can you spot a gap?

But even Apple cannot overcome the laws of physics, and the physical gaps which existed several years ago have now been filled. Below is a comparison of the screen sizes of several revolutionary products:

	Screen Size (Measured Diagonally in Inches)
Phone - Nokia 3210	1.5
Smartphone - iPhone 4s	3.5
Samsung Galaxy Tab	7.7
Tablet - IPad2	9.7
Netbook - MacBook Air	11, 13
Laptop -MacBook Pro	13, 15, 17
Desktop -iMac	21.5, 27

The Nokia 3210 was one of the most successful phones of the early Noughties. At this stage people typically had three types of technological devices available -a desktop computer with a large screen at one end, a smaller laptop which acted as a portable desktop, and a phone with a tiny 1.5 inch screen for communicating. A massive gap existed between devices with 1.5 and 13 inch screens.

The release of the iPhone in 2007 gave people a device that still fit in their pocket, but had a screen at 3.5 inches that was over double the size of their current phones. The genius of the iPhone was that the larger screen enabled it to carry out many of the functions that a computer could. The gap had thus narrowed to still sizable 3.5 and 13 inches.

Apple, and Steve Jobs in particular, saw this gap and made a conscious effort to fill it. Indeed, at the launch of the iPad in 2010, Steve Jobs said that:

The question has arisen lately - is there room for a third category of device in the middle? Something that's between a laptop and a smartphone...[iPad] is remarkable. It's so much more intimate than a laptop, and it's so much more capable than a smartphone with this gorgeous large display.

Steve Job's genius was thus to have the vision to repackage software that was already available into a physical size that wasn't available. With a screen size of 9.7 inches, the iPad has successful bridged the gap between the smartphone and laptop. The consumer could now choose from the full range of screen sizes - all major gaps had been filled.

The Irony of Success

Yet the irony of success is that there are no major gaps left for Apple to fill. Looking back at the table above, there were only two gaps that leave the technology industry and Apple with any room for innovation:

The first of these is between the iPad's 9.7 inches and the MacBook Pro's 13 inches. This gap explains the recent growth in Netbooks/Ultrabooks running Microsoft's Windows. The release of an 11inch MacBook Air in late 2010 was Apple's response. As a slightly smaller and lighter version of a laptop, netbooks like the MacBook Air are clearly not revolutionary products. Indeed, Steve Jobs said at the launch of the iPad that "netbooks aren't better at anything". The problem for Apple is that products like the MacBook Air, that are moderately successful but not revolutionary like the iPhone or iPad, could represent the future.

The only other gap that still exists lies between the iPhones's 3.5 inches and the iPad 9.7 inches. Can Apple create a revolutionary product in this gap? The only guide we have at the moment is the Samsung Galxy Tab, which at 7.7 inches has made an attempt. Yet Steve Jobs also blasted it, saying in October 2010 that a 7 inch iPad mini would be "useless" and dead on arrival . Whilst it has achieved some sales, the results point to a product that, like the netbook, could have moderate success at best. A product in this size wouldn't fit in your pocket, yet wouldn't offer the capabilities of a tablet either. Intuitively, it doesn't seem to have much future.

Why iTV Could be the Way Out of the Crossroad

With the space between the iPod Nano and iMac becoming increasingly saturated, Apple has reached a crossroad which points in three directions:

1. Create a product smaller than the Nano

This doesn't seem feasible as a product with an even smaller screen would be impractical to use.

2. Invent a product so special that it thrives in a saturated market

While Apple's history of successful innovation means that this is certainly possible, this article has shown that many of its products have in fact been part of a systematic process to provide a range of sizes for consumers that is now reaching its conclusion. While one wouldn't bet against Apple, a revolutionary invention isn't something that any prudent investor should count on.

3. Create a product larger than the iMac

The development of an iTV offers Apple's most logical way out of this problem. By offering products with screen sizes of 30, 40 inches and above, Apple would finally offer a complete range of products. Apple could then work on connecting its 'ecosystem' of products through services such as iCloud. Indeed, an interconnected 'ecosystem' seems to be the direction the technology industry is heading in. Microsoft's next operating system Windows 8, for instance, will run on phones, tablets, Xbox and traditional computers.

Conclusion

The genius of Apple and Steve Jobs was to have the vision to see a future where currently available software could be repackaged into hardware sizes that would enable consumers to do different things. But the gaps have now been filled, and it will be increasingly difficult for Apple to leverage the physical beauty of its products with new and revolutionary hardware.

Yet with so much success over the last decade, this is exactly what many investors are expecting. Even if Apple continues to grow its current products rapidly and introduces a number of moderately successful products like the MacBook Air investors won't be satisfied - they expect more revolutionary products.

Apple is thus at a crossroad - without any significant gaps left to fill it must either create a revolutionary product outside the current range of sizes, or face a future that leaves investors disappointed. Moving into the television market with iTV offers a way out. Will it succeed? We will have a better idea after the AGM on the 23rd.

Disclosure: I am long GOOG, MSFT.