Apple v. Microsoft- Lessons On Value Creation

Today's Wall Street Journal happens to contain two separate articles involving Apple and Microsoft.

The headline piece in the Marketplace section is "Microsoft CEO Takes Over Gadget Unit," while Holman Jenkins, Jr.'s editorial is titled, "Apple's Second Date with History."

In the Marketplace article, Nick Wingfield discusses the troubles Microsoft has had since its initial splash with XBox. Two key senior managers are retiring, and Ballmer is now taking over the entertainment and communications devices units. He writes,

"Microsoft's problem hasn't been that it was late to the consumer-device market. Michael Garternberg, an analyst at advisory firm Altimeter Group, said Microsoft missed important consumer trends by focusing on its core business markets.

The shifting fortunes could be underscored in the coming weeks by a changing-of-the-guard in market capitalization. While Microsoft has long been the tech industry's most highly valued company, a little more than $6 billion now separates its $229 billion stock market value from Apple's."

Wingfield quotes an academic attributing the difference to higher consumer spending growth versus that for business IT products and services.

Personally, I think that academic got the cart before the horse, in the sense that the real difference between the firms has to do with pursuing commodity markets instead of product/markets which reward better design and functionality.

Holman Jenkins begins his editorial noting how Apple had a near-death experience many years ago, only to be rescued by the internet. Jenkins, too, discusses how Microsoft competed in operating systems, which became commoditized, while Apple went off in a different direction, specializing in digital devices for specific applications.

Jenkins believes Apple, through its closed systems for the iPod and iPhone, risks another brush with death, as Google's Android cell phone operating system challenges it for supremacy. He ends his piece contending,

"Apple this time understands (we hope) that it isn't playing for all the marbles, but can build a very nice business on just those customers who crave a premium service tightly controlled by the wonderful Mr. Jobs, even if it means paying a bit more and forgoing access to a lot of Web goodies that might not work so well in favor of a smaller number that work really well.

Still, we'd rather be Google. Why? Because Google can fail at everything but as long as it keeps its search box at the center of our digital lives, the ad gusher will continue to flow."

Jenkins' parting comment led me to construct the nearby Yahoo-sourced price chart for Apple, Google, Microsoft and the S&P500 Index for the past five years.

Sorry, Holman, but I'd bet on Apple. And actually have, as it's been a frequent member of my recent equity strategy portfolio selections, whereas Microsoft has not for a decade, and Google has not, if at all, for quite some time.

The price chart confirms what I suspected. That is, Apple's highly-focused, niche strategies have given its shareholders better returns over time, with Google already falling back to earth, and the now-hapless, gargantuan Microsoft lumbering along near the S&P's return.

I think quite highly of Mr. Jenkins, but on this topic, I have to respectfully part company with him.

In my humble opinion, as a trained marketing professional, both Messrs. Wingfield and Jenkins miss the key point about Apple's strategy versus Microsoft and Google.

Jenkins actually mentions that Apple chose to forsake the open operating systems world, and focus on niche digital devices. But he fails to understand the key benefit of that choice.

I believe it is this. Both Microsoft and Google became dominant in large markets, which, though providing for rapid early growth, have made it difficult to sustain such growth. Whether it's operating systems and basic office productivity software or online ad revenue from free search, both companies have saturated those markets and must look to higher-cost, more challenging new businesses for growth.

Apple, by contrast, chose to pursue specific consumer need satisfaction with a family of specialized digital devices. Steve Jobs has a flair for design, packaging and promotion of these devices.

Truth be told, over time, the product/market segment Jobs chose provides for better product margins and higher barriers to entry. Note how Microsoft has become loathed for its poorly-designed, patch-heavy operating systems. It's an open secret that many users still run XP and older Office packages. Including me.

Google has even forced Microsoft to include net-based Office applications in their recent product version. Meanwhile, Bing competes with Google's search, and everybody is looking at proprietary online or cell-based ad systems.

The lesson here seems, at least to me, to be obvious. Mr. Jenkins' appetite for market size notwithstanding, I'll take consistently superior total returns every time. And as long as Steve Jobs continues to run Apple, that's probably what you'll get.

The nearby price chart for the same entities, from 1985, clearly shows Microsoft flattening by the dawn of this decade. Apple declined after the dot-com bust, then rocketed forward on the i-series products and services. Google, from its inception, only matched Apple's returns.

After Jobs, le deluge. No argument there. But Microsoft crested while Gates was still there, and Google's very wide-open business model, while initially capturing huge profits as the first-mover, is now having some difficulty continuing that early growth.

I see Schumpeter's theory at work in this picture. Apple re-invents itself in a technological space far faster and more successfully, profitably, than either of its putative rivals.

With large markets tends to come commoditization and earlier end to superior growth and returns. The case of Apple, Microsoft and Google bears that out once again.