Apple: Grace under fire

When iPod mini went on sale in the US in February, the first 100,000 to be produced sold out quickly, with demand far outstripping supply.

Not wanting to alienate its domestic market, Apple took the decision to divert production intended for the rest of the world to meet US orders.

As a result, Apple has announced that the European launch date originally set for April would be delayed by three months to July.

Back in 1984, Apple revolutionised desktop computing with the launch of the Macintosh. It was a machine designed to appeal to the individualist, which, for the first time, revealed the true possibilities of using computers creatively in areas such as design. Twenty years on and a multitude of products later, Apple hopes iPod mini will carry its brand to a new position of strength and extend its appeal to a hitherto untapped audience.

Apple has always been an emotive brand, the Marmite of the computer world, which people either love or hate. Its reputation for innovation and style is well deserved, yet these qualities have not always guaranteed it success.

The dominance of 'Wintel' personal computers - Microsoft's Windows operating system running on Intel's processors - has left Apple as a niche player, albeit in a huge market.

The company has been on the brink of ruin several times, but has always found a way back. In its turbulent 28 years, founder Steve Jobs has been ousted, only to return a decade later, having co-founded animation studio Pixar, to lead a revival in Apple's fortunes.

Apple's past is littered with products that have bombed - and a few that have gone on to become icons. One product to fall into the latter category is the iMac, a desktop computer of rare beauty, lovingly styled by Apple design guru Jonathan Ive. Its launch in 1998 dragged Apple out of the doldrums. For the first time in years, it had a computer with mass-market appeal.

In 1998, Apple said the iMac would come to 'embody the brand'. That was then; today things are very different. Worldwide sales of the iMac are falling, and Apple's above-the-line focus has shifted to the iPod. 'With the iPod we've created an iconic product in its own right, as we did with the iMac,' says Apple UK managing director Mark Rogers. 'iPod has been huge for us in creating excitement around the Apple brand.'

Strengthening sales

The iPod has a hard drive, whereas most MP3 players use Flash memory.

Apple has already sold more than 2.8m units worldwide, and its second-quarter results, out last week, show its revenue from iPod sales was $264m (£147m), up from $31m (£17m) a year ago. The company sold 807,000 iPods in the quarter, a 909% rise on the same period a year ago. But Apple is now aiming for a wider audience with the introduction of the iPod mini, which is able to store 1000 songs.

Priced £199, it is smaller and more affordable than the three other iPod models on the market - although these have greater storage capacity.

'Since losing out to Wintel in PCs, Apple has seen the ups and downs of being a niche company,' says Steven Milunovich, vice-president of analyst Merrill Lynch. 'The success of the iPod shows Apple could become relevant again thanks to its tech knowhow and strong brand.' He believes gross margins may be sustainable at about 20% for a 'category-defining product'.

There is an undeniable buzz around Apple and iPod at present, but not everything is going its way. Earlier this year it faced negative media coverage about the relatively short life of its battery compared with other MP3 players and the difficulty of changing the component.

However, Rogers says the battery problems have been overstated, and dismisses the media coverage as a 'storm in a teacup'. He adds: 'All batteries wear out. In normal use most people won't experience their battery dying on them. We don't see it as a big concern.'

Now that the European launch of the iPod mini has been put back, Apple must also tackle the disappointment of consumers being asked to wait six months longer than those in the US to get their hands on the feted music player. Apple's commitment to its domestic market is good news for US consumers, but what does it mean for Apple over here? Will sales be lost due to impatient consumers buying alternative MP3 players?

Apple shrugs off such fears, arguing that it would be worse to launch with an inadequate supply. 'UK customers were disappointed in the availability of iPod pre-Christmas, so it is important that we launch when we have enough to meet demand,' says Apple's European PR manager, Alan Hely. 'iPod continues to be very popular and awareness of the iPod mini is growing.'

There is an argument that the delay may even work in Apple's favour, building hype and expectation for what has cleverly been positioned as a must-have product for music and gadget lovers. But what do retailers think?

'Postponing a product launch is a very risky strategy that can backfire disastrously,' says Michael Smith, chief executive of gadget e-tailer Firebox. 'This is especially true in the fast-moving consumer electronic space. The market for MP3 players is advancing extremely rapidly, with cheaper, more feature-rich models emerging all the time. But in this instance, there is little risk to Apple. The iPod brand is very strong and the customer base loyal enough that a delay such as this will only help fan the flames of frenzied demand.'

Smith says Firebox is keeping customers who ordered the iPod mini online updated via email whenever new information arrives from Apple. He adds that due to current exchange rates, buying iPod minis in bulk at retail prices from the US becomes a very attractive proposition for UK retailers. Firebox has been investigating this route in the past few months and is speaking to several US retailers. 'The major problem is that because demand is outstripping supply to such a large extent, it makes more sense for US retailers to sell their limited stock to their individual US customers,' Smith adds.

'But we are trying and had a recent breakthrough. We will ship to our customers on a first-come, first-served basis.'

A bigger problem for Apple will be remaining ahead of the competition.

As Ovum senior analyst Dario Betti puts it: 'Memory and hard drives are not a technology that Apple has exclusive rights to.'

So how can Apple make sure the iPod is not swiftly swamped by clones?

One shrewd move has been a licensing deal with Hewlett-Packard, which allows the IT giant to make its own version of the iPod. Apple's recognition of the commercial imperative of licensing is belated, but fortunate. Its refusal to do so for its operating systems nearly led to its demise in the 80s.

Download boom

But there is more to the iPod experience than the device per se. Last year in the US Apple launched iTunes, an online music download business, which has the support of the music industry and boasts a catalogue of more than 500,000 songs. Songs can be purchased for 99c (55p) each. On March 15 this year Apple announced that more than 50m songs have been downloaded from iTunes, and that 2.5m are being downloaded every week.

Apple refuses to confirm when iTunes will go live in Europe, other than to say it is expected at some point this year, giving rise to speculation that it has encountered difficulties securing favourable terms from some record labels in Europe.

Merrill Lynch forecasts that global iPod/iTunes revenues could reach $1bn (£540m) this year, and double within two years, so iTunes is clearly an important piece of the jigsaw. Four years ago Apple embarked on a strategy of making its home computers a 'digital hub' for devices such as MP3 players and digital cameras, as exemplified by its iLife package of creative and entertainment tools.

'There's a real revolution going on in terms of acceptance of legally downloaded music,' says Rogers. 'We've brought an easy way to do it, fully supported by the music industry. The download market will continue to boom.'

Siding with the competition

Rogers argues that iTunes will be 'hugely beneficial' to iPod users when it finally goes live in Europe. Much rests on getting the iPod/iTunes package right. Apple has set out its stall to be compatible with its old enemy Microsoft's Windows PC operating system. The intent is deliberate: to secure itself a spot in the mass market, rather than purely on the fringe.

'It is the first real product Apple has had that has been compatible with the PC platform,' says Rogers. 'That has created a huge buzz and has made other people consider our hardware. It is a hugely important product for us in terms of getting us in touch with the other side - PC users.'

Some observers wonder whether Apple has put too much marketing emphasis on the iPod as emblematic of the Apple brand and illustrative of how the company's products have changed. 'We estimate that across Europe it has invested 50% of the revenue from the iPod into above-the-line activity,' says Sony personal audio and digital imaging group product manager Cyrus Richardson. 'It has directed Apple brand money into iPod and used it as a brand statement. That is unsustainable.'

Richardson adds that it's too early to say whether the iPod is a 'fad or a phenomenon'. The mass market for personal audio devices, he says, is still pitched at below £100 a unit. Sony has no plans to introduce a hard-drive MP3 player because of concerns over durability. 'If you drop it, it's dead,' he says.

Instead, this summer Sony will launch its Hi-MD, an evolution of its MiniDisc system, which will allow the equivalent of 45 CDs to be stored on one disc.

Hi-MD discs will be sold for about £5 and Sony hopes these will appeal more than hard-drive products because friends will be able to share music easily, simply by swapping discs. Sony also has plans for an online music download service, Connect Music Download, which will have about 300,000 songs - 200,000 fewer than iTunes.

Other consumer electronic goods manufacturers will also look for fresh ways to take on iPod and several mobile phone handset manufacturers are experimenting with integrating MP3 players and mobile phones. Given its track record in innovation, Apple will not stand still either. There are already rumours that it is spending some of its sizeable R&D budget on a device that combines an MP3 player with a digital camera.

It also seems likely that Apple will bring its bricks-and-mortar retail store concept to the UK. Last year its first store outside the US opened in Japan and it appears to be trading well. All Rogers will say is that 'it's a fair assumption that people would like to have Apple stores in Europe, no question'.

Back to basics

All the consumer hype around iPod masks the fact that the principal driver of Apple's business remains selling hardware and software to businesses and professional users. Here, too, Apple has made changes. Its current OSX operating system is far more compatible with other systems than previous incarnations. Rogers concedes that Apple still has some challenges to overcome, particularly the concerns of IT departments that Apple hardware and software is difficult to integrate with other systems. His message to IT buyers is that they should forget everything they knew about Apple.

'We are a very different company from three or four years ago,' he says.

The iPod is the all-singing, all-dancing representation of the new Apple.

If you listen carefully, Apple's message is clear: we are just as innovative as we ever were, but we don't want to plough a lonely furrow anymore.

TIMELINE - APPLE

1976: Founded by Steve Jobs and Steven Wozniak with the release of the Apple I.

1984: Apple's Macintosh launches with a landmark 60-second Ridley Scott ad during the Super Bowl. The Mac is the first mass-market mouse-driven computer.

1985: Jobs is ousted in a boardroom coup.

1987: Mac II initially proves a smash, shipping 50,000 units a month, but PC clones saturate the market, leaving Apple as a niche player.

1994: PowerPC chip-based PowerMac arrives to compete with the Intel-powered processing might of IBM-compatible desktop machines.

1995: Apple posts a $68m (£38m) loss for one quarter.

1996: Steve Jobs returns to the company he founded.

1997: Apple begins selling computers direct. A long-running dispute with Microsoft is settled out of court.

1998: Production of the unprofitable Newton palmtop device is cancelled. The lovingly styled iMac arrives.

2000: As the business-technology market slows, Apple embarks on a strategy of making the Mac the 'digital hub' for personal electronic devices such as MP3 players and digital cameras.

2001: Digital music player the iPod is unveiled. Roll-out of Apple retail stores begins in the US.

2003: iTunes music store, an online music download service, goes live. The first Apple retail store outside the US opens in Tokyo.

2004: iPod mini launches.

KEY PRODUCTS

iPod

More than 2m of the digital music players sold worldwide since introduction, with more than 730,000 of those in the first quarter of this year. 15Gb, 20Gb and 40Gb models hold 3700, 5000 and 10,000 songs respectively and are priced £249, £299 and £399.

iPod mini

The new kid on the block. This scaled-down iPod will be able to hold 1000 songs. UK price is £199.

iMac

Desktop computer aimed at consumers (below left); 227,000 units shipped worldwide in the first quarter of this year, down 24% on the previous year. Prices start at £999.

PowerBook

Apple's notebook computer range. Worldwide sales in the first quarter of this year achieved a record high of 195,000, up 93% on the same time a year ago. Prices start at £1299.

Power Mac

G5 A muscle machine popular with professional designers. Sales on an upward trend: 206,000 sold in the first quarter, up 30% year on year. Models start at £1399.

iLife

A quintet of Apple's creative and entertainment tools - GarageBand, iTunes, iPhoto, iMovie and iDVD - bundled together for £39.

FIVE-YEAR FINANCIAL HISTORY

2003 2002 2001 2000 1999

Total net sales (dollars m) 6207 5742 5363 7983 6134

R&D costs (dollars m) 471 446 430 380 314

Gross margin as percentage

of net sales 28% 28% 23% 27% 28%

R&D as percentage of net sales 8% 8% 8% 5% 5%

International sales 42% 43% 45% 48% 45%

Net income/loss (dollars m) 69 65 -25 786 601

Source: Apple