The cries for an Apple (NASDAQ:AAPL) dividend have become louder over the years as it has continued to amass cash. And as at Microsoft (NASDAQ:MSFT), a dividend may one day be forthcoming. But don't cry out for it just yet. Apple has mastered the art of making opportunity of its cash, and should not be begged to part with it just yet.
In The News
Before launch, the new iPad 3 was already in the news not just with photo leaks and speculation over expected specs, but also with more evidence that Apple's cash gives its shareholders opportunities to attack prospective markets in a way no competitor can. For example, freight shipments out of China were squeezed by Apple's prearranged iPad 3 shipment plans. Apple's huge consumption of freight carriage has left competitors paying a 20% premium to ship their products during the same time frame.
Apple's Past Is Prologue
This is not the first time Apple has employed large-scale purchases to create a competitive advantage. Apple's admirable supply chain management included locking up the world's supply of 1.8" hard drives when the company first launched the iPod, making it impossible for anyone to rush a true competitor to market while the product's market share remained at risk. As described by Adam Satariano last year, Apple pulled a shipping shortage shortly after Jobs' return in 1997 to pre-purchase air shipping capacity before holiday demand was known, so that by the time the holidays rolled around Apple was the only company able to make a holiday delivery deadline for computers. This meant that Apple could sell to holiday buyers right up to the last minute, and competitors had no hope of making timely deliveries once Christmas was near. When Apple began drop-shipping iPods from Chinese points of assembly, competitors recognized what Adam Satariano described as "an 'Oh s----' moment[.]"
I recall to this day reading criticism of Apple for its large fourth-quarter air freight expense - but think of the computers Apple would have been unable to sell without that last-minute shipping capability? Prepaying $50,000 for air shipment was a big deal for a near-broke Apple in 1997. Today, Apple has the economic muscle to do with Flash memory what it did with 1.8" hard drives: as the world's largest purchaser of Flash, Apple frequently leaves competitors unable to buy Flash - or leaves them paying a premium for it.
Adam Satariano's article explains how Apple pulls the same stunt on a regular basis with lasers, precision drilling equipment, and all kinds of necessary ingredients Apple's competitors need to compete with Apple.
The Future Is For Sale, And Apple Has Cash
Apple didn't invent touch-screen technology, it bought it. Apple just invented how to make more money with it than all other competitors combined. The interface innovation enabled by this purchase has been one of Apple's most successful attacks on older-generation devices: it forced the entire industry to emulate it. Every smartphone now seems to have a touch screen.
Consumers may not be broadly familiar with Cassady & Greene or SoundJam. But after Apple bought SoundJam from Cassady & Greene it renamed the product iTunes. And you've seen the software interface to the highest-selling music store in the United States, and in the world. And to the biggest software store on the planet. All that business is not designed to squeeze profit from consumers, but to marry consumers to Apple platforms and their convenience for the long term. That marriage is a competitive advantage.
Though it is the world's largest buyer of Flash storage, Apple is still looking for ways to obtain additional economies over competitors. When Apple quietly snapped up Israeli Flash technology firm Anobit in December in a half-billion dollar cash deal, it opened the possibility of using cheaper Flash hardware to obtain performance currently impossible at prices affordable to consumers. White papers formerly available at Anobit's web site explained how controllers could make reliable storage out of unreliable, cheap Flash much in the way RAID allows reliable storage to be created from cheap disks, or SMART allows reliable storage on drives as parts of the physical media fail. Embedding Anobit's technology into Apple's memory controllers could enable Apple to sell more Flash for less money at better performance than is available to competitors. And that is a competitive advantage.
Investing in proprietary microchip R&D was a strategy that a poorer Apple was unable to make profitable in the 1990s. Now, Apple uses not only Apple-designed operating systems but Apple-designed chips in most of the devices it sells. And it's adding to its chip development capability. As Apple's internal components become harder and harder to compare with competitors' reviewers will be forced by Apple's increasing differentiation to describe the products primarily on the basis of their feel rather than clock speeds or the like. Bake-offs between Intel (NASDAQ:INTC) and Motorola chips running Photoshop on different operating systems, which were once a major source of performance claims, have completely disappeared from Apple product presentations. Forcing people to compare competing products with Apple's entire ecosystem rather than to a spec sheet is an outstanding competitive advantage not available to competitors, who use common operating systems [largely from Google (NASDAQ:GOOG), but also from Microsoft] and application stores (curated by Google or Microsoft) and therefore compete with each other as commodity vendors. Apple, meanwhile, has a differentiated product that continues to be differentiated because Apple buys outright those technologies that will further differentiate its offerings.
Apple's ability to pick up half-billion-dollar firms at the drop of a hat is an important part of Apple's long-term differentiation of its product lineup. Differentiation with storage technology is not Apple's only differentiation or the last. Without differentiation, Apple is just another DELL: a commodity vendor subject to competition on mere price and to lackluster share performance over time. With differentiation, Apple is able to make more money on PCs than firms with greater market share, rake in more profit on smartphones than every other vendor worldwide combined, and retain its lead as the world's most valuable firm.
The New Math
And what does the future hold? Only time will tell. But that future depends critically on Apple's ability to design and differentiate a product ecosystem capable of earning a premium from a planet full of skeptical buyers. And as Apple's past shows, creating those critical factors takes capital. As a shareholder, I vastly prefer to see capital expenses made in cash than with dilutive issuance. So: long live Apple's cash.
Anobit may be a game-changing technology acquisition, freeing Apple to use much cheaper grades of Flash to offer customers a vastly higher-performance product than is available from competitors. With Flash overtaking spinning disks not only in mobile devices but increasingly also on the desktop, Apple may be in a position to offer lower-power, quieter, more maintenance-free hardware to showcase its software ecosystem. Wouldn't it be a bummer if, the next time a chance like that came along, Apple decided it was just not rich enough to spring for it? Or if Apple paid for it in new shares because it'd spent the cash on dividends we could be taxed on now, rather than growth opportunity the taxes on which could be deferred forever?
Then think of the press release investors were treated to five years ago, explaining that Apple's announced desktop and server operating systems' ship date would be missed because its shorthanded engineering teams were tied up with the iPhone's operating system. John Gruber now reports that the OS X release schedule has evolved at Apple into an annual event with OS X Mountain Lion, which presumably will enable better synchronization between technology in Apple's desktop and mobile operating systems and the iCloud back-end. Keeping this release schedule will be important to Apple's evolving hardware, particularly as Apple's hardware becomes more tightly integrated with Apple software by virtue of the increasingly in-house hardware design. Getting this right will require resources, the willingness and ability to compete for the best engineers, and a new stream of improved underlying technology.
Maybe Apple doesn't need all the cash. Before you decide you should pay taxes yourself on a share of the $100b cash stash, however, make sure you remember Apple needs enough to do exciting new things to differentiate its externally visible products and services, and to improve internal processes. Imagine the investment required to change the way financial transactions occur in developing countries. Imagine the cost of the next plateful of wild new technology ideas that will differentiate Apple products in future years. Imagine the opportunity Apple must be able to afford to create if the company is to continue to differentiate itself with superior offerings.
Cash isn't king, by a long shot, or we'd be ruled by banks. But cash creates opportunity, and Apple's management has shown - particularly since Tim Cook became involved - that having a lot of cash is an outstanding way to create competitive advantages in the form of component pricing, product fulfillment, preferential supply contracts that ensure quality parts, and a whole host of opportunities.
And I like Apple to have a lot of opportunity.
Disclosure: I am long AAPL.