Apple: Why Its Ecosystem Remains Very Healthy

Sep.17.13 | About: Apple Inc. (AAPL)

Apple's (NASDAQ:AAPL) premium pricing strategy has come under criticism for allowing Android competitors continued dominance in terms of unit market share. One argument against Apple's pricing strategy is that Apple is starting to lose the ecosystem war to Android as Android adds a tremendous number of entry level smartphone users. The premise is that ecosystem value depends on the number of people participating in them, and that Android is going to end up with several times as many users as iOS.

Apple is expecting to reach 700 million iOS devices next month, while there are 1 billion Android devices. Sales trends indicate that this gap is increasing, with Android devices outselling iOS devices by a greater than three to one margin now.

Despite Android's growth, we maintain that Apple still has the strongest ecosystem and is not at risk of being relegated to second-tier status in the future. We will go into the reasons for this below.

The iOS Ecosystem Is Already Huge

While it is true that ecosystem value is dependent on enough people participating in them, iOS already has a tremendous amount of users and is successful enough that doubling market share would not significantly influence app availability. The iPhone platform is the first priority for 35% of developers vs. 27% for Android smartphones. This comes despite Android's sustained numerical advantage. As well, any successful app is virtually guaranteed to come to iOS in short order, even if Android gets first development priority in some cases.

To put things in perspective, Apple sold 55 million Macs in its first 22 years after launch (from 1984 to 2006). Apple sold 140 million iPhones and 70 million iPads during the last year alone. Those huge numbers combined with the fact that development times and costs for mobile apps are much less than for PC/Mac software, means that iOS will not miss out on software titles (or receive them years after the PC) the same way the Mac sometimes did before.

App Store Revenues

A key reason why Apple still retains development priority is app profitability. Google Play is doing very well in terms of downloads and total number of apps, beating Apple's App Store in both of those metrics now. However, the metric that matters most to developers is profitability, and in that area Apple still dominates. This is mainly due to Android's user numbers being inflated by large numbers of cheap smartphones. People buying cheap smartphones just do not spend very much on apps.

Apple's App Store had 2.6x Google Play's revenue in Q1 2013. While this is down from 4.0x Google Play's revenue in Q4 2012, the gap in terms of absolute dollars still increased in favor of Apple. This comes despite Android's large advantage in terms of device sales, and indicates that Android likely needs to sell at least four to five times as many devices as iOS to start closing the dollar gap.

This profitability gap also has implications for marketing. Since the average revenue per Google Play download is less than 40% of the average revenue per App Store download, developers need to achieve a much lower cost of acquisition per install for Android compared to iOS, otherwise the marketing would become unprofitable for them.

OS Fragmentation

The massive number of different types of Android devices with different screen sizes and different OS versions makes it somewhat more difficult to develop and maintain apps for the Android platform than for iOS. As these charts from June 2013 show, 93% of iOS users were on iOS 6, while Android users were spread out among the Jelly Bean, Gingerbread, and Ice Cream Sandwich versions. This is another advantage for Apple in maintaining developer priority.

Consumer Loyalty

Another question is whether Apple is permanently losing customers due to Android locking them in to their ecosystem. The idea is that Apple is going to miss out on a lot of customers due to people getting an Android phone as their entry level smartphone and then sticking with it as they become more affluent. However, a Consumer Intelligence Research Partners study appears to indicate that Android loyalty is not ironclad.

iOS has a lead on Android in terms of smartphone loyalty. 81% of iPhone users ended up purchasing another iPhone as their next phone, compared to 68% of Android users who ended up purchasing another Android phone as their next phone. Since Android phones have a much larger price range, some of those 68% who purchased an Android phone again probably could not afford an iPhone. Among Android users who are affluent enough to afford an iPhone, the loyalty percentage is likely to be less than 68%.

While Apple will miss out on some users by not having an entry level product, these figures show that Apple will have an opportunity to capture a significant number of those users as they gain more disposable income.

Country Specific Applications

Apple is at a disadvantage in the availability of country specific apps for emerging markets where it does not sell a large number of total units. China is not one of those markets since Apple sells millions of iOS devices despite a relatively low market share. However, in Indonesia Apple only sold approximately 250,000 iPhones in 2012, compared to 4.4 million for Android. Those sales numbers are low enough for developers to focus on Android first when making apps that are mostly targeted to Indonesians only. As a result, there are some apps that are popular in Indonesia that are only available on Google Play. These trends bear monitoring, although since most top apps are not country specific, Indonesian iOS users still have access to approximately 90% of the top apps. It is also probable that disposable income plays a much larger role in the decision between Android and iOS in emerging markets than local app availability.

Conclusion

Despite Android's high unit market share numbers, the iOS ecosystem is still more powerful. Apple retains developer priority due to higher app profitability as well as a less fragmented OS. There are very few significant apps that are missing from the App Store, while Google Play is still missing a number of top apps.

As well, studies indicate that Android has less consumer loyalty than Apple. This means that Apple has a chance to convert very significant numbers of Android users in the future. It is not true that Android has locked up entry level and emerging market smartphone users forever through the availability of inexpensive smartphones.

Any ecosystem that can sell over 200 million high end devices each year is not an ecosystem that is in trouble. Declining unit market share is not an issue unless it is combined with significant declines in actual units sold as well. So far this is not the case, and Apple has taken a measured decision to forgo expanding its unit market share in favor of margins and maintaining its brand image.

Disclosure: I am long AAPL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.