Apple and Google: On Your Wrist and In Your Car

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July 10, 2014

Apple and Google: On Your Wrist and In Your Car

Despite slight recent design shifts toward each other, AAPL and GOOG still have very different world views – a contrast that is clear in their strategies to extend their platforms to new venues, like “wearables” or cars. While it moved to open iPhone hardware to 3rd party developers a bit, AAPL has not published APIs for its widely expected iWatch, , portending a highly proprietary device, perhaps tightly tied to the new HealthKit functionality. Meanwhile, GOOG’s AndroidWear gives OEMs leeway for design differentiation, and includes clean APIs for developers to deliver value-added extensions of their apps, aiming to increase user engagement by delivering notifications in a more immediate context. We are not overly bullish for demand, particularly if health/fitness is the salient use case, and expect total demand to be a modest fraction of the installed base for either platform. In this, we suspect “wearables” may better suit GOOG’s objectives (i.e. more frequent app engagement, broader user data profiles) than AAPL’s (i.e. smartphone share gain, profits from iWatch sales). In automotive, the companies have had to settle for the rough parity of APIs that enable users to interact with either smartphone platform via dashboard touchscreens and vehicle hands free controls. In the home, both companies are jostling for space in the crowded and competitive TV market, while swapping roles for home controls, with AAPL courting 3rd party device makers to adopt its iOS-integrated HomeKit solution and recent GOOG acquisition Nest disrupting traditional solutions with its slick connected devices.

  • WWDC 14 put developers first. AAPL loosened iOS to allow 3rd party apps to work together and to access more of the device hardware, delivered a new graphics engine, programming language and SDK to developers, and published a raft of APIs to facilitate interplay between iOS devices and home devices, health devices, TVs and cars. These enhancements aim to entice developers to deliver apps for iOS first, preserving an advantage for AAPL. The HomeKit and CarPlay solutions reach out to home controls specialists and automakers respectively, inviting integration of their platforms with iOS and suggesting that AAPL has drawn a line on reaching further into these markets with devices of its own.
  • GOOG’s I/O 14 was about consistency. The new Android L looks to reverse the fragmentation of the OS, giving developers a common platform across devices and giving users a consistent experience. GOOG introduced a comprehensive software design schema, a turnkey reference design for sub-$100 smartphones, amped up enterprise features, 64-bit processor support, power saving adjustments to raise battery life by more than a third, and platform extensions and APIs for wearables, TVs and cars. GOOG did not release an Android solution for home controls, but its recent acquisition of connected home device pioneer Nest portends future moves in the area.
  • The iWatch watch. AAPL did not announce the iWatch, nor did it release APIs for developers, suggesting a highly proprietary take on wearables when the device appears in the fall. The HealthKit hype portends a health/fitness focus at launch, although we see greater long term value in iWatch as an extension of TouchID. While the iWatch will very likely carry high margins, with great appeal to AAPL’s well-heeled and loyal customers, we are a bit skeptical of the most bullish forecasts given the high expected price point and the narrowness of the health/fitness market. Of course, AAPL could surprise with functionality that goes far beyond the rumors – they’ve done it before, although not recently. Furthermore, having just poached Tag Heuer’s head of sales and marketing, AAPL may be going with a fashion-heavy approach as well – great for margins, if true, but less so for broad penetration.
  • Google Now on your wrist. In contrast, AndroidWear devices from multiple OEMs are already hitting the market, promising multiple price points and configurations, while published APIs encourage developers to tailor their apps to exploit the new devices. The primary use case seems to be enhanced notifications and convenient access to information, well suited to GOOG’s overall strategy to drive engagement with its well monetized cloud services. In particular, AndroidWear is a vehicle for Google Now, the unique and powerful extension of search that anticipates user needs and pushes contextually relevant information. GOOG notes that the average user checks his/her smartphone almost 8 times per waking hour – with AndroidWear, perhaps that frequency can be increased.
  • Car jacking. After years of lobbying auto makers to embed their systems directly into car infotainment systems, AAPL and GOOG have settled for the next best thing – direct connections that allow smartphones to plug in and take over the display and input mechanisms of the car, a significant boon to users who had previously been stuck with proprietary systems for the 4+ year life of their cars. AAPL has CarPlay. GOOG has AndroidAuto. The two are very similar and are unlikely to stimulate smartphone sales volumes or share shifts, as we expect the large majority of car makers to support both. However, for GOOG, BOTH platforms could increase engagement for its cloud apps.
  • Too soon to pick winners in the home. Over 8 years and 3 design generations, AAPL has sold 20M+ AppleTV units, giving it advantage in the living room over GOOG, which sold “millions” of its simple $35 Chromecast device in its first year after failure of its more ambitious GoogleTV. GOOG is back again with Android TV, a specialized version of Android L that promises to combine apps and games with high quality streaming and a slick user interface. However, with global gaming console penetration well over 200M and aggressive competition from cable boxes (Xfinity, Tivo, etc.) and other efforts (Roku, Samsung Tizen, etc.), both AAPL and GOOG have their work cut out for them. Meanwhile, AAPL and GOOG have seemingly swapped strategies for the rest of the house, with AAPL offering a platform (HomeKit) for third party OEMs to adopt, and GOOG offering proprietary, design-rich connected reinventions of thermostats and smoke detectors through its recently acquired Nest business.
  • The trends favor GOOG. AAPL will likely sell quite a few iWatches to go with the big screen iPhone 6 also expected for the fall, as part of a strategy to capture more device revenues from each loyal AAPL customer. However, we remain concerned that it will be difficult to drive sustained sales growth and margins without either broadening the target market or driving services revenues more effectively. As for GOOG, we believe that Android’s dominant position in mobile is under monetized, but that shifts in the advertising market, a rapidly growing user base, a more aggressive stance with OEMs on GOOG services, and accelerating engagement through platform extensions could be substantial drivers of future revenue growth.

AAPL and GOOG: Everywhere You Want to Be

The similarities between the iOS and Android have been the subject of years of bitter patent disputes and fanboi flame wars, but over time, the two platforms have only grown more similar. At its recent WWDC, AAPL, which has historically maintained tight proprietary control of the iOS ecosystem, loosened the reins a bit, enabling 3rd party apps to access platform elements that had been off limits, while allowing apps to link directly with each other and to deliver richer content to notifications. All of this had been part of Android from nearly the start. Three weeks later, GOOG’s I/O conference promised to clean up the fragmentation that had been Android’s bane with a comprehensive, tightly designed OS release, clamping down on platform alterations by licensees and offering consistent experiences for users from low end to high end and a consistent platform for developers. In this, Android moved toward AAPL’s more rigid approach.

As the giants begrudgingly evolved their flagship OSs to be more alike, they also began staking claims for extensions into new venues. The big buzz was around “wearables” and GOOG showed its hand first. AndroidWear puts app notifications, and in particular, GoogleNow, front and center. The idea is to increase user engagement by removing the friction of pulling out a phone, and early reviews are positive. In contrast, AAPL is playing close to the vest – it has not announced the iWatch nor has it released APIs. With AAPL touting its HealthKit integrated app and hiring Tag Heuer’s marketing head, we suspect a high price point, a proprietary, stylish and heavily integrated design, and a health/fitness lead use case.

The two rivals have had breakthroughs of a sort with the automobile industry, which has previously resisted entreaties to cede control of their in car infotainment systems. AAPL’s CarPlay and GOOG’s AndroidAuto are very similar – both use the car’s touch screen, audio system and steering wheel controls to access and interact with apps that run on the attached smartphone – and thus, are unlikely to drive new smartphone adoption or share shifts, as we expect all major car makers to support both solutions. Marginally, this is a greater benefit to GOOG, which could see better engagement with its apps across both device platforms.

The “connected home” market is like a bad party, with a huge crowd in the living room fighting over control of the TV remote, while random devices pop up in strange places all over the house. AAPL hopes to rally it all under the iOS banner with its 20M strong AppleTV user base and the new HomeKit app entreating 3rd party device makers to standardize on the iPhone as the central control. GOOG, already kicked out of the TV party once, snuck back in last year with the popular $35 Chromecast and is making a bigger play this year with AndroidTV. This Android L extension offers appealing support for games and other apps, but GOOG will really need to push hard with OEMs to be heard above the living room din. Interestingly, GOOG’s acquisition of Nest puts it in the traditional AAPL position, with a disruptive, design heavy, and proprietary set of devices for home control. Executed well, it could be the winning play.

We are not convinced that “wearables” will be a huge volume market, particularly with health/fitness as the lead use case or with a $350+ price point. We don’t see any of the new venues driving more device volume or share shifts between the two platforms. However, we buy the idea that extending the smartphone to the wrist, the car and throughout the home can increase the engagement of users with the platform, offering valuable user data and opportunities to use it in advertising and commerce. Advantage: Google.

A Tale of Two Cities

Although Silicon Valley is home to hundreds of successful tech companies, certain communities along the peninsula have come to be known as the homes of specific iconic employers. Bill Hewlett and David Packard famously started HP in a Palo Alto garage. Santa Clara is synonymous with Intel. Oracle’s headquarters in Redwood City is instantly recognizable from the 101. Likewise, Cupertino IS Apple, which building a new $5B campus to support more than 15,000 employees, which makes it the largest commercial employer in the city by a factor of 30. Six miles down the 85 Freeway is Mountain View, home to Google, which employs nearly 10% of its home city’s workforce at its Googleplex campus.

On first impression, Cupertino and Mountain View are similar – hipster restaurants, nerd chic retail, legions of highly educated engineers and cramped neighborhoods of small, but shockingly expensive, homes. Certainly Apple and Google have some similarities as well – both were classic Silicon Valley shoestring start-ups; both had young, charismatic founders elbowed aside temporarily in favor of “adult supervision”; and both have delivered extraordinary innovations that have changed the course of the industry. With the introduction of the iPhone and the subsequent rise of Android, the two companies found themselves in the same business, and what was a friendly civic rivalry turned into “thermonuclear war”.

However, despite the proximity of their Googleplex and One Infinite Loop HQs, the mirror image demographics of their employees, and base similarity of iOS and Android, Apple and Google came to the growing rivalry with very different perspectives. We have written about the contrasting cultures of the two companies (http://www.sector-sovereign.com/2014/05/may-21-2014-tmt-culture-eats-strategy-for-breakfast/), and the philosophical differences are real and profound. Steve Jobs was a computer designer who believed deeply in the zen of the perfect integration of software and hardware, and this spirit is deeply ingrained in the Apple zeitgeist. The Mac, the iPod, the iPhone and the iPad were product concepts that really didn’t exist before Apple imagined them and then delivered them in fully realized form, and as others inevitably followed, the company looked to exploit the advantages of integrated design excellence, tight ecosystem control and brand cachet to sustain its leadership. Sometimes it worked (iPod) and sometimes it didn’t (Mac) (Exhibit 1-2).

In contrast, Android was a defensive move by Google, which was founded on the altar of scalability. Larry Page and Sergei Brin, as Stanford graduate students, in building a system to index and search the enormity of the Internet, found a way to circumvent the inherent size limits of the data center technology of the ‘90’s. Google Search was simply better than the alternatives and the company ran hard and fast to grow its substantial scale and performance advantages. However, the pending introduction of the iPhone, to which Google was privy in advance, represented a substantial threat to the future of its family of web applications – an Apple monopoly over smartphones would eventually allow it to squeeze Google out. Thus – the acquisition of Android and the subsequent gambit to make the platform software available for free to all of the OEMs suddenly disenfranchised by the iPhone. The OS was not designed to be tightly integrated to hardware, rather, it was designed to be tightly integrated to Google’s suite of cloud services.

Exh 1: Multiple of PCs sold versus Mac

Exh 2: Quarterly iPod Sales, Launch to March 2014

Apple Reaches for the Cloud

The Jobs legacy at Apple is all about the device. Hardware and software integrated tightly and designed to the teeth in beautiful, self-contained objects that delivered simple and intuitive, yet powerful user experiences. The 1984 MacIntosh, the 2001 iPod, the 2006 iPhone and the 2010 iPad – these iconic products didn’t respond to user needs revealed by other companies’ products, but rather they anticipated new needs that had yet to be expressed. In this, Apple flies in the face of Clay Christensen’s disruption theories that have become mantras in Silicon Valley – Apple products were not cheap and not introduced to address some niche that had been ignored by the established standards, they were proudly expensive and dared to shout that the emperor had no clothes. Apple has lived on delivering things that users didn’t know that they needed, but quickly came to believe that they couldn’t live without.

Exh 3: Apple Quarterly Sales by Segment, 1FQ 2010 – 2FQ 2014

This approach has been an obvious and stunning success, success that combined with the cult of personality that surrounded Steve Jobs has cemented one of the most focused cultures in all of Silicon Valley. Apple makes a limited set of products – Macs, iPads, iPhones, iPods, and a smattering of accessories and “hobbies”, like AppleTVs and AirPort WiFi hubs. The devices are turnkey, well differentiated by their design and performance, and priced at a premium to would-be competitors, delivering extraordinary margins to Apple. Other businesses – Apple Stores, iTunes, The App Store, etc. – exist to support the sale of those high margin devices and enhance their value to the company’s famously loyal and affluent customers (Exhibit 3). The coolest people in Cupertino are Jony Ivie and his band of designers – software and hardware – who conceive and deliver those devices. Unusually, manufacturing is also cool at Apple – CEO Tim Cook is a former COO – as is sales/marketing, where new Apple Stores head Angela Ahrendt is viewed as a rock star.

Conversely, the cloud is not cool at Apple. Steve Jobs was content to allow others to supply web-based services to iPhones, as long as he could extract a toll. Initially, the iPhone was designed to be updated by direct connection to a Mac, and only added over-the-air synch in response to Blackberry and Android (Exhibit 4). Apple’s primary web presence, iTunes, remains a clunky site out of character with the company’s slick image. Cloud services have been added to the iOS mix over the years – iCloud, iAd, Siri, Maps, and others (Exhibit 5). These have been disappointments, and notably, Apple has not moved to broaden its cloud presence by making any of its services available on other platforms. The weak nature of Apple’s cloud efforts is echoed in its data center infrastructure, which is seriously subscale and architecturally pedestrian relative to its chief rivals Google and Microsoft.

Exh 4: Quarterly iPhone Sales, Launch to March 2014

Exh 5: Evolution of iOS, 2007 – Present

Google Starts to Herd the Cats

Where Apple focuses, Google scales. Its success has been about leveraging its extraordinary web-scale computing muscle into a wide portfolio of powerful and intuitive cloud applications. With the wild success of Search, Gmail, Maps, Chrome and other cloud franchises, Google has also been able to collect oceans of usage data, allowing it to personalize its services to an unprecedented degree and to monetize the whole thing with precisely targeted advertising. Google is several steps ahead of the world in modern data center architecture, big data analysis, and cloud application design, and the cool people in Mountain View speak geek as their native tongue.

Google’s prescience, buying Android in 2005, before anyone else seemed to have an inkling of the coming shift to Mobile, speaks to the value of its long view and willingness to explore. The strategy of offering the OS for free to any and all comers speaks to the importance it places on scale. Android was quickly adopted by most of the world’s cell phone makers – with the notable exceptions of Apple, Nokia and Blackberry – appearing in multiple form factors and at multiple price points. Even giving the iPhone a 15 month head start, Android smartphone sales volumes surpassed iOS in a scant 2 years after introduction. Now, Android devices out-ship Apple’s devices by more than 3 to 1, with more than 1.2B currently in active use around the world – not including “forked” versions that do not access Google’s cloud services (Exhibit 6-7).

However, popularity came at a price. In this case, Google’s zeal to spread Android across the world yielded fragmentation. OEM partners, looking to differentiate, slathered bloated software skins on top of the OS, making the Android experience inconsistent for users, introducing incompatibilities for 3rd party app developers and distracting from Google’s own cloud services. At the cheaper end, manufacturers implemented components that were inadequate to support more modern updates of the software, perpetuating obsolete versions that delivered inferior performance for users and that were no longer sufficient for most apps. More than 25% of all Android devices are using OS versions that are more than 2 years old, with just 18% upgraded to the most current version (Exhibit 8).

Exh 6: Evolution of Android, 2008 – Present

Exh 7: Global Smartphone Market Share by Platform Sales – Q1 2009 – Q4 2013

Exh 8: Android Versus iOS Version Distribution

Come Together, Right Now

Coming from different directions, iOS and Android have been, inevitably, moving toward each other. This was well evident in the announcements at their respective developer conferences, held three weeks apart in the same San Francisco convention center. At Apple’s WWDC, it introduced its latest iteration of its mobile platform software. iOS 8 loosens many of the restrictions on app developers, allowing them to access elements of iPhones and iPads – such as the camera, the TouchID fingerprint sensor, the on-screen keyboard default, etc. – that had previously been tightly restricted. It also broadened the information that could be shared via push notifications, allowing users to access and respond to data without having to fully open an app first. Furthermore, apps will be able to access each other directly, allowing developers to build upon and integrate with existing programs. These enhancements, more or less, echo functions that have long been available to Android users.

Apple is also beefing up its cloud services. iCloud gets a native file system to let users store files more easily and a photo library option. Tasks will have continuity across devices – start an email on a Mac, finish it on your iPhone. Messages adds audio and video support. Siri will be always listening for its “Hey Siri” wake-up command and will integrate Shazam for identifying songs. These are also areas where Android users had had the advantage in the past. On top of it all, Apple threw in goodies for developers – a new graphics engine for games, a new programming language, a new SDK and a revamped App Store with better tools for discovering content (Exhibit 9).

Exh 9: 2014 Apple WWDC Announcements

Three weeks later, Google took its own turn toward the center. First up was Android One, a detailed hardware reference design for sub-$100 smartphones able to run the newest OS updates and supporting the full library of Google Play apps (Exhibit 10). No joke Indian OEMs Karbonn, Spice and Micromax are in the program from the get go, though it’s unlikely fast growing low end Chinese manufacturers who have been the biggest propagators of incompatible substandard phones in the past will be in the program. Android One requires connections to Google Play for software updates and since the company doesn’t do business in China, the app store vacuum has been filled by the likes of Baidu and Alibaba. Neither of these companies is likely to cede influence of its app store to Google. Next up was Android L, which introduced a fresh and comprehensive set of guidelines for the look and feel of Android and its 3rd party apps called “Material Design”, in a play for the design consistency that has been such a hallmark of iOS.

Another big part of Android L was “Project Volta”, which systematically attacked power waste in all elements of system operation, thus increasing Android smartphone battery life by a purported 36%. This came on the heels of last year’s “Project Svelte”, which pared the OS down to where it could run comfortably on systems with just 512MB of RAM. Behind the scenes, Google has been seriously pressuring its OEM partners to tone down their proprietary skins, which seriously complicate the process of rolling out system updates and wreak havoc on 3rd party developers looking for a consistent platform. To that end, Samsung has reportedly agreed to scale back the Magazine UX skin that it had announced for its new tablets back in January, while rumors of an Android Silver program with incentives to induce OEMs to deliver devices based on a stock Android experience continue to circulate.

Exh 10: 2014 Google I/O Announcements

While iOS and Android have clearly evolved toward each other, the strengths of the two companies are still evident in the platforms. Apple’s proprietary devices work together with an ease and efficiency that has been impossible thus far for Google’s polyglot universe to mimic, while Google’s ubiquitous cloud services still run circles around Siri, Apple Maps or iCloud, despite Apple’s close attention. Expect future iterations from each leader to look toward chipping away at the other’s advantages.

Such a Supple Wrist

Lately, the biggest buzz in the smartphone world has been around “wearables”, which, Google’s Glass experiment aside, has largely come to mean connected smartwatches as extensions of the smartphone that stays in your purse or pocket. The first round of these devices, from vendors like Sony, Samsung, Pebble and Qualcomm, have largely followed the legacy of standalone fitness trackers, like the Nike FuelBand or MotoACTV, and thus far, the demand has been less than inspiring (Exhibit 11-12). Perhaps this is because the tradition of wearing a wristwatch seems to have died off, somewhere between Generations X and Y, as the ubiquity of cell phones and network-precise digital clocks emerged. Perhaps it is because the population of people motivated to wear fitness trackers is isolated to the very sick and the obsessively healthy. However, maybe, just maybe, it is because all of the smartwatches released until very recently have been poorly designed and poorly integrated with the dominant smartphone platforms. This is the bet that both Google and Apple are making.

Exh 11: Wearable Shipments, 1Q 2014

At Google I/O, VP Sundar Pichai made the point that smartphone owners check their devices 125 times every day – that is more than once every 10 minutes during their waking hours. Google’s hope is that by strapping a display directly on the wrist, and saving users from the inconvenience of pulling their phones out of their pocket, it can induce them to check in even more often. This would be great … for Google – more usage data, more engagement for its core suite of apps, and more opportunities to present advertising. Thus, AndroidWear – a standard for extending the platform to the wrist, giving OEMs freedom for physical design and support for their proprietary apps, but insisting on a firmly consistent user interface, rigid adherence to APIs, and prominence for Google cloud services.

Exh 12: Fitness Tracker Utilization

Early reviews have been largely positive, with GoogleNow, which aims to anticipate user needs and push context relevant information (e.g. schedule reminders that factor in traffic conditions, breaking news on topics of previously expressed interests, etc.), emerging as the killer app. As more 3rd parties begin to exploit the AndroidWear APIs, expect rich notifications to join GoogleNow in making smartwatch users just “that much” better informed. The AndroidWear minimum hardware requirements are simple enough to anticipate devices at a wide range of price points – from well below $100 to as high as an OEM dares to go – and in a variety of square and round screen form factors. Google has not pushed the health/fitness angle with the standard, although OEMS are free to run with that idea – for example, Samsung has included a heart rate monitor in its Galaxy Gear implementation.

With the massive Android installed base worldwide and an easily implemented spec, AndroidWear should be popular with both OEMs and developers, meaning that the universe of devices and compatible apps will grow very broad very quickly. Assuming some of these devices crack the code for stylishness at an attractive price (N.B. we have our eyes on the upcoming Moto360), Google has a shot at getting those incremental “check ins” that it wants.

In Search of … The Mythical iWatch

At this point, there is just too much evidence for the rumors of an Apple smartwatch coming in the fall not to be true. Tim Cook and Eddie Cue have hinted about it, as have scads of Asian manufacturing and components players. Apple poached luxury watchmaker Tag Heuer’s VP of global sales and marketing and a lead engineering team from Nike’s FitBand operation. Apple launched its HealthKit health and fitness monitoring solution at its WWDC, then proceeded to flood the airwaves with its “Chicken Fat” commercials touting the application, despite the obvious lack of biometric sensors in the iPhone itself. Every one of the Apple blogs has been writing about the iWatch as a foregone conclusion. So what is it going to be like when we finally see it?

Not only is there no iWatch yet, there are also no published APIs for software developers to write apps. Given that it is just 3 months before the rumored October introduction, time is very short for there to be any 3rd party apps tailored to the products unique capabilities, perhaps outside of a handful of strict non-disclosure agreements with longstanding trusted partners. Almost all of the heavy lifting will be done by Apple, and the rich and anticipatory notifications that are the centerpiece of AndroidWear will likely just be simple echoes in the iWatch. Word has it that Apple will instead center its solution on HealthKit, packing it with sensors to measure things like heart rate, body temperature, and even the amount of sweat as an indicator of stress. It is also expected to run a relatively full version of iOS, allowing it to operate separately from an iPhone for these health-related functions. Such a product would be well appreciated by the fitness obsessed, who may be well represented within the core of Apple’s loyal customer base.

It is also widely believed that Apple will also take a high end fashion tack – if not, why hire that Tag Heuer executive? As such, rumors have as many as a dozen iWatch variants at launch, with different shapes, materials and screen sizes. Given the always-in-view prominence of the wrist, it is sensible that Apple’s typical one-size-fits-all would have to loosen, but SKU proliferation does have significant cost implications for manufacturing, plus the intention to support a full, standalone OS has costs of its own. Moreover, the objective for Apple is to make significant margins on the sale of its devices, this upcoming iWatch included. This suggests that the price points for iWatches may be even higher than many suppose. With the first round of AndroidWear devices coming in at $200-$300, we suspect that Apple could start its line at $400 or more (Exhibit 13).

Exh 13: Bill of Materials and Margin Above BOM for Select Apple Products

It is believed that Apple is planning on building some 15 million iWatch units for launch, and if they sell them all at that $400 presumed price point, the product could add some $6B to Holiday quarter sales. Still, out of an estimated 375M iPhone users, half of whom bought their phones with a carrier subsidy, it is hard to see how more than 10-15% would spring for an iWatch, particularly if it is sold with a health/fitness use case and at such a substantial price premium. Once the Fanboi early adopters are out of the way, building iWatch into a 50M units per year business that could be a meaningful contributor to Apple’s $176B in annual sales will be very difficult. Of course, Apple could surprise us with a magical product that unearths consumer needs and wants that none of us currently imagine. They have done it before.

I’m Driving in My Car …

The automotive industry is famously possessive about the proprietary infotainment systems that they have developed for their products. Apple and Google have unsuccessfully lobbied for years to take over the dashboard screen and sound system for auto makers, much to the dismay of consumers who remain stuck with built-in systems that are antiquated within the first year of the typical five year life of a car. A few years back, these systems began to support Bluetooth and headphone jack input, allowing phone calls and music streaming, but on-screen controls were clunky and the rest of the smartphone’s functionality was excluded.

Exh 14: Infotainment Alliances

This year, there has been a breakthrough, or to be accurate, two breakthroughs. A slew of car makers have agreed to support solutions from Apple and/or Google that allow iOS and Android smartphones to interact with users directly through the dashboard touchscreens, sound systems and steering wheel controls of the car. Apple’s CarPlay and Google’s AndroidAuto are very similar – plug in your smartphone to a compatible jack, select the smartphone option from the automaker’s system, and the apps running on your phone become fully available in the car (Exhibit 14). Both standards allow you to use voice commands to control the apps, and will read text aloud and take dictation for hands free messaging without taking your eyes off the road. Both can become the default navigation and sound system for the car.

For consumers, this is a Godsend, keeping the infotainment functions that they rely upon current and consistent with their habits outside the car. For Google, it’s another way to increase engagement with its users, capturing more data about their behavior and providing more opportunities to serve ads. For Apple, it is unlikely that parity in the car will drive greater smartphone adoption or induce share shifts toward the iPhone. As such, CarPlay is a bit of a non-event for Apple shareholders.

There’s No Place Like Home

While Apple and Google rule your pocket, are staking their claim for your wrist and have found a way to follow you into your car, they have a lot of competition for your attention at home. The living room has been a prospective battlefield for years, with late ‘90’s conceptions of “home hubs” giving way to PayTV DVRs, beefed up gaming consoles and alternative TV boxes of various provenances. Apple has been in the game with its Apple TV since it was introduced as a “work in progress” by Steve Jobs in 2006. Three architectural generations and 20M units later, this “hobby” is a real player in the crowded field looking to redefine the living room video experience.

Still, the American living room is still dominated by the cable box plugged into input one on the big screen TV and the default every time the system is turned on. We wrote about this last summer in “The War on TV” (http://www.sector-sovereign.com/2013/06/june-12-2013-the-war-on-tv-the-attack-of-the-boxes/) and there are signs that this de facto domination is in play. There are more than 200 million connected game consoles installed worldwide – by far the most popular path for on-line streaming video to reach the living room TV (Exhibit 15). Microsoft’s newest platform, the Xbox One dares to slip ahead of the cable box on input one, relegating PayTV to equal status amongst the various entertainment options on the console.

Exh 15: Cumulative Game Console Shipments, through May 2014

Beyond cable boxes and game consoles, Apple also faces other rivals for the living room. Park Associates recently estimated that both Roku and Google’s $35 bare bones Chromecast passed Apple TV in unit sales during 2013, relegating it to a disappointing 3rd place amongst next gen video boxes. Looking forward, the competition will only grow more fierce, with Amazon having already thrown its hat into the ring with its well spec’d FireTV box and Google announcing its newest play for the living room. If Apple is really serious about taking control of the living room TV, it would be a good idea for it to introduce a comprehensive revamp that can transcend the crowd of boxes that are threatening to render the once innovative Apple TV into “me too” territory.

Android TV gained some well deserved snickers from the technology press, coming after the epic failure of Google TV, the company’s previous fully featured platform for smart TVs and alternative set top boxes, which collapsed under the weight of its unrealistic ambitions. Since then, Google had redeemed itself somewhat with the ultra-simple and virally successful Chromecast, giving it a bit more confidence to come to market with a more ambitious platform. Google TV offers the basics for any Smart TV or set-top box – access to the most popular streaming services, recording capability and a slick user interface well integrated to Android mobile devices. It also offers the ability to access Android apps directly on the TV, including the library of popular games available on Google Play. This capability is differentiated and intriguing, and a few important OEMs, e.g. Sony, Sharp and Philips, have taken up the gauntlet. Meanwhile, Google is adding the ability to use Chromecast to fully mirror the content of an Android device on the big screen, matching one of Apple TV’s key differentiators on its $35 product, and creating another way to spur user engagement on Google apps. Still, it’s WAY too early to call winners in the living room, even if we have a sneaking suspicion that Microsoft and Sony have the inside track.

Touring the rest of the home, relatively little progress has been made in connecting the other rooms. Nascent stand alone products for home audio, security, safety, power management, lighting, and other functions have hit the market, but standards for connecting and managing them all are a free for all. Apple is making a play for this market, offering the HomeKit solution running on an iOS device as a central control mechanism for all manner of connected devices. Apple may find itself selling a few iPad Minis as dedicated remotes for HomeKit, but for the most part, this approach is similar to CarPlay in solidifying the palette of applications available to its customer base but not yielding new device opportunities for Apple. Interestingly, Google’s newly acquired Nest business unit, founded by Apple’s erstwhile iPod guru Tony Fadell, is taking a distinctly Cupertino-an approach, with proprietary thermostats and smoke detectors designed to the teeth and looking to leapfrog traditional home control solutions with fresh new system designs.

Yes, But What Does All of This Mean For the Stocks?

We have been kill joys on Apple over the past couple of years. The company insists on restricting itself to the upper end of the smartphone and tablet markets, and faces slowing demand as that global segment nears saturation and rising competition as emerging market competitors start delivering functionally similar devices at serious price discounts. Over the past year, Apple has taken some nimble steps to put off the future and find pockets of opportunity within its narrow target market. It signed initial iPhone distribution agreements with two of the world’s largest mobile carriers – China Mobile and NTT DoCoMo – both of whom had been recalcitrant Apple hold outs. Reportedly, it will finally eat crow and bring out not just one, but two large screen iPhone models for the fall, one of which would fit squarely into the “phablet” territory that has been fodder for jokes during previous Apple executive presentations, but that has proved to be the only remaining growth segment in the high end smartphone market. This will undoubtedly spur a round of early replacement from iPhone loyalists who have secretly lusted after their friends big screen Android models, and could swing some share gains in Asian countries where size really matters to first time buyers. Finally, Apple will sell some iWatches – maybe all 15M of that initial order and then some – at what we expect to be surprisingly high prices with commensurately high margins. With an easy compare for June and anticipation for these new products, Apple’s new found mojo is very likely to continue into the holiday season. Enjoy it while it lasts, because Apple will need to find another $25B+ in new revenue for 2015.

Exh 16: Selected Google Market Opportunities

Meanwhile, Google sits in the midst of a major paradigm shift in global advertising toward the Internet. Taking steps to assure its cloud-based services are front and center on Android devices, including those sold to the rapidly growing low end smartphone market, is critical to continuing the company’s dominant position in mobile advertising. Stimulating greater engagement by extending into new venues – the wrist, the car, the TV, etc. – increases Google’s opportunities by capturing more complete data on user activity and offering additional vehicles for delivering advertising. There is enormous further potential from cloud-based services – advertising, e-commerce, services, products, etc (Exhibit 16). (http://www.sector-sovereign.com/2014/02/february-5-2014-google-king-of-the-kloud-krewe/). No company is better positioned to go after that potential.

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