This is the second of a three-part special report on tech investing. Click here for the first part on major trends, and check back later today for the finale, a company-level look at the major players.
The Significance of China, India and South America
When you look at the tremendous gains that Apple (NASDAQ:AAPL) stock made in 2012, much of that growth can be attributed to the iPhone — a single product that’s responsible for nearly two-thirds of the company’s profits. The iPhone has seen phenomenal growth since its 2007 debut, but as 2012 progressed, some of the wind went out of the iPhone sales. They were still good and still increasing, but not quite at the rate that Apple investors had been expecting.
Competition was one issue, but arguably the bigger one was the realization that the markets in North America and Europe were in danger of becoming saturated. People don’t always upgrade their iPhones every year, and there are fewer people remaining who don’t already own a smartphone, so investors began to worry that Apple’s iPhone sales momentum would slow, bringing down profits (the iPhones are very high-margin devices).
The problem of market saturation is not exclusively Apple’s — all smartphone manufacturers in this market have had to turn increasingly to upgraders instead of people who don’t yet own a smartphone (a tougher sell and a more cyclical one that’s tied to multiyear wireless contracts) — but the iPhone’s impact on the company’s stock price was a big part in the 39% decline since last September.
The answer to this problem is increasingly China, and to a lesser extent South America and India. All of these markets have the advantages of being massive in comparison to the Western smartphone market, with very low current smartphone adoption rates. China in particular is coveted by Apple, Samsung (PINK:SSNLF) and the other major smartphone makers. It has a population of 1.3 billion, the country has become an economic power and its citizens are increasingly buying up technology such as smartphones as status symbols.
Unfortunately, these emerging markets also come with disadvantages, in particular disposable income.
Apple has no problem unloading $649 iPhones in North America, where per capita income hovers in the $50,000 range. However, China’s sits around the $5,000 level; none of the emerging markets comes close to North American or Western European income levels. Even if the same sort of subsidies that make a new iPhone cost just $199 on a two-year wireless contract were negotiated with Chinese cellular providers, how many of the 1.3 billion people could afford to shell out that kind of money?
That’s why there have been nonstop rumors in recent months about Apple frantically working on developing a low-cost iPhone. The company needs to a make an iPhone with a much lower cost of entry, but it needs to keep margins as high as possible. To a certain extent, Apple could cede margins for high volume (something it has avoided doing to date) — but if its stock is going to recover, it needs both.
Making things even trickier in China, in particular, is the rise of competing local smartphone manufacturers like Lenovo, ZTE and Huawei who are beginning to release premium smartphones that compete directly against the likes of Apple and Samsung.
A number of issues could potentially disrupt segments of the technology marketplace. Any of these on their own, or in combination, could knock a company or a segment of the tech industry for a loop.
Apple television: Rumors that Apple would release an Apple-branded television (as opposed to its Apple TV set-top box) have been going strong for several years; former CEO Steve Jobs was reportedly working on this as his final project. Such a move would be risky — expectations are high and failure to meet them could result in an expensive flop — but the rewards of being able to sell a premium TV (with corresponding premium prices), expand its reach into the living room and spur growth in a new market segment are tempting. One big problem here is that TV makers have had a hard time making money for years … and Apple may turn out to be no different.
Apple watch: So-called smartwatches (a wrist watch with Bluetooth connectivity and the ability to run apps) have been on a roll over the past year. Kickstarter darling Pebble released its smartwatch this year, and the rumor mill has Apple working furiously on an “iWatch” with reports that a team of 100 is assigned to designing the device. There’s also a current fascination with health and exercise monitoring devices like the FitBit activity sensor. An Apple iWatch that combined apps and monitoring could be a breakout product with sales potential to lift its stock out of the doldrums.