A Big Misunderstanding

Thursday, 20 December 2012

Cliff Edwards’s 2001 “Sorry, Steve: Here’s Why Apple Stores Won’t Work” piece for Businessweek is deservingly notorious in the annals of claim chowder, but there are a few things about it worth keeping in mind even today. There’s more to it than just a few guys who were wrong about Apple’s prospects in retail.

The first is that Edwards wasn’t out on a limb. In the investor and general tech press, it was common at the outset to believe that Apple’s foray into retail was folly. The second is that Edwards was more than just a little bit wrong. He wasn’t merely implying that retail might prove difficult for Apple, that success was a longshot. His argument, backed by quotes from analysts and even former Apple CFO Joseph Graziano¹, was that Apple’s retail foray was surely doomed. His case was based on a severe misunderstanding of Apple as a company, of its relationship with its customers, and of its then-potential for the coming decade:

The way Jobs sees it, the stores look to be a sure thing. But even if they attain a measure of success, few outsiders think new stores, no matter how well-conceived, will get Apple back on the hot-growth path. Jobs’s focus on selling just a few consumer Macs has helped boost profits, but it is keeping Apple from exploring potential new markets. And his perfectionist attention to aesthetics has resulted in beautiful but pricey products with limited appeal outside the faithful: Apple’s market share is a measly 2.8%. “Apple’s problem is it still believes the way to grow is serving caviar in a world that seems pretty content with cheese and crackers,” gripes former Chief Financial Officer Joseph Graziano.

Rather than unveil a Velveeta Mac, Jobs thinks he can do a better job than experienced retailers at moving the beluga. Problem is, the numbers don’t add up. Given the decision to set up shop in high-rent districts in Manhattan, Boston, Chicago, and Jobs’s hometown of Palo Alto, Calif., the leases for Apple’s stores could cost $1.2 million a year each, says David A. Goldstein, president of researcher Channel Marketing Corp. Since PC retailing gross margins are normally 10% or less, Apple would have to sell $12 million a year per store to pay for the space. Gateway does about $8 million annually at each of its Country Stores. Then there’s the cost of construction, hiring experienced staff. “I give them two years before they’re turning out the lights on a very painful and expensive mistake,” says Goldstein.

Graziano’s caviar vs. cheese and crackers gets to the heart of what was — and, I think, remains today — profoundly misunderstood about Apple. First is that the caviar vs. cheese and crackers analogy not very subtly implies exclusiveness and snobbery. That superiority and exclusivity inherently go hand-in-hand, and forever doom Apple to small market shares in the long run. That the company’s market share success, as with the iPhone and especially the iPad today, are short-term aberrations, and will collapse when fads change and commodity-level competitors achieve a certain nebulous “good enough” quality. That every market inevitably will look like the PC market of the 1990s. That Apple is misguided, because it insists upon selling boutique exclusiveness that inherently limits the appeal of its products in tech product markets where mass market scale is essential. What works for, say, actual caviar cannot work for a large publicly-held computer maker.

Part of that thinking is correct: scale matters. Apple today shows that. By selling very large quantities of a remarkably small number of products, Apple operates with economies of scale that are the envy of all its competitors. They can negotiate better prices and lock-in supplies of crucial components such as flash memory chips.

The part that’s wrong is the insistence that broad mass market appeal and an insistence upon superior design are mutually exclusive. Apple’s brand stands for both quality and inclusiveness. It’s a luxury brand for the masses. The company’s retail stores exemplify this. They’re not stuffy or standoffish, like, say, high-end jewelry or fashion stores. Apple’s stores are welcoming — crowded and casual. Apple is like no other computer or gadget maker, and its stores are like no others as well.

What Apple understands and its critics did not (and still do not) is that many people, from all walks of life, simply appreciate nice things. They accuse Apple of pretension and elitism, but it’s they, the critics, who hold that the mass market for phones and tablets is overwhelmingly composed of tasteless, fickle shoppers who neither discern nor care about product quality. That Apple’s lead in these categories is simply because they were first out of the gate in them, not because their products are so good.

Advertising alone can’t convince customers that products are nice, because all ads claim every product is great. You need to see things, to touch and try them, to truly believe. That’s a problem Apple’s retail stores helped solve. That’s a reason why, today, Apple is working with the ultimate mass-market retailer, Wal-Mart, to get iPhones and iPads into the hands of more potential customers (including expanding their market to include more people who do prioritize low prices).

Apple is not selling caviar against cheese and crackers. They’re selling better-tasting cheese and crackers, and all you have to do is come into their store and taste some to believe for yourself. Anyone who believes Apple is about to have the rug pulled out from under the iPhone and iPad by commoditized Android devices should spend a few minutes inside an Apple retail store this holiday week.

By the way, in case you’re curious, Gateway is still in business.