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Since the release of the iPod, Apple has released the iPod Mini and the iPodShuffle which has tightened its grip on all areas of the portable music market.Switching costs for the consumer are low allowing customers to flow fromproduct to product based on price, but Apple will continue to rely on brandidentification, differentiation, and innovation to maintain a firm grip on marketshare.In both the personal computer and portable music markets, componentcosts are large part of the total hardware costs, but through Apple’s productdifferentiation and higher pricing they are able to counteract the price wars thatusually ensue under such conditions. Finally, there are little to no exit barriers ineither market, which could be advantageous in ousting some of Apple’scompetition in the future.Competitive Force 2: Threat of New EntrantsWithin the personal computer market there are a few well-establishedcompanies that consume most of the market share. These companies are: Dell,HP Compaq, and Gateway. There are large economies of scale in the personalcomputer market and this limits new entrants. A company would need to haveaccess to an enormous amount of capital in order to effectively compete with thefew well-established market leaders.The large economies of scale make itnearly impossible for new start-up companies to gain any type of significantmarket share. In the personal computer market there are basically two mainoperating systems offered on personal computers: Microsoft’s Windows andApple’s Mac OS X. A new company would have to create competitive softwarethat is one step ahead of the rapidly changing technological advancementswithin the computer software market. Another barrier that new entrants wouldhave to face are legal barriers; mainly in the form of patents. The main marketleaders have numerous patents on computer designs as well as technology,which make it extremely difficult for new entrants to enter the market without9

large amounts of start up capital to create new and innovative advancements intechnology.Apple is the most dominant company in the portable music market. Theportable music market is relatively new, and as a result there are a fairly largeamount of competitors. The main competitors in the MP3 sector are: Apple, Rio,Nike, Sony, Creative, Napster, and Dell. There is more of a threat of newentrants in the MP3/Portable Music market than there is in the personalcomputer market. While portable music hardware still requires significant capitalinvestment to develop and produce the hardware units, the portable musicwebsites (i.e. Napster, iTunes) have relatively small startup costs. This leavesApple susceptible to new entrants who could possible steal away a portion of itsiTunes market share.Apple is enjoying the first mover advantage in the hardware side of themarket with their iPod.While numerous portable music players have beenreleased within the last 5 years, Apple was the first to combine style, usability,and large capacity into a single unit, and because of this they are enjoying thefirst mover advantage with the introduction of the iPod. Even though the iPod ismost expensive portable music player on the market, it is highly sought after bycustomers because of the ground breaking technologies it employs. Customersare pleased with the quality of Apple products thus far and they continue to lookto Apple for future innovations (iPod mini, Shuffler, and accessories). Althoughthis creates an obstacle for new entrants, it is possible for them to establishthemselves within the market. Due to the potentially high growth rate of thismarket, it is still profitable for companies to invest the capital involved inbreaking into the market. It will be essential for companies entering the portablemusic market to innovate beyond the standard set by Apple. Even though themain market leaders already have many patents protecting their technologies,new entrants can develop pioneering technologies due to the relatively youngnature of the market.10

Finally, Apple should be aware of the threat of a counter culture ofcustomers which shy away from Apple’s products due to their dominance in themarket.This phenomenon is best represented by the counter culture thatdeveloped with Microsoft that led some customers to Linux. A counter culture ofthis sort has not yet asserted itself into the portable music market, and is of noimmediate threat.Competitive Force 3: Threat of Substitute ProductsOn the personal computing side of Apple’s market are a number ofproducts from various competitors. Each of these competitors has a wide rangeof computing systems designed for various types of users. Dell is marketing itsDimension line of computers for desktop users and its Inspiron line for laptopusers. Both the Dimension and Inspiron lines differ in features and power toprovide varying selections for customers with diverse needs.2 The same can besaid of Hewlett-Packard’s Pavilion/Presario desktop and laptop PCs, as well asGateway’s 3200/5200/7200 series desktop computers and M210/M320/M520series laptops.3,4 It would immediately seem that Apple has a wide array ofsubstitutes in the market, but the proprietary nature of Apple’s products setsitself apart from its competitors.While HP, Dell, and Gateway each use theMicrosoft Windows operating system and an Intel/AMD based CPU, Apple’scomputers use their own in-house OSX operating system and an IBM derivedPower processor CPU. This separates the computers in how they function, whichinevitably means the software packages and overall functionality differs greatly.While Dell, HP, or Gateway could out perform Apple in both speed and in price,Apple has set itself apart from these other computer manufacturers by keepingitself unique in the market and gathering around itself a loyal group of users.Regardless of this, Apple will have to continue to stay innovative and priceconscious as new and existing computer owners begin to make the decision ofwhether their new computer is a PC or a Macintosh.11

Within the portable music market, Apple’s hard-drive based MP3 playerhas many possible substitutes within the market. Some examples include theJetAudio iAudio U2, Creative Nomad, iRiver iFP-790, and Rio Forge. These MP3players are similar to the iPod, but are flash-memory based, meaning theytypically hold less mp3s but consequently cost less. This doesn’t seem to bemaking a substantial impact on Apple’s iPod sales as buyers are getting moremp3 capacity per dollar using the iPod and do not have to worry aboutupgrading their players with additional memory cards in the future. Apple hasresponded to the flash-memory based market with its recent introduction of iPodShuffle. However, the iPod Shuffle is a new product and it has yet to be seen ifit can capture market share away from the flash-memory units already on themarket. Finally, portable CD players and radios are still on the market, thoughthey pose a very small threat to the iPod as they lack the ability of storing yourmusic in digital mp3 files.Competitive Force 4: Bargaining Power of BuyersApple focuses on differentiating its products in both the personalcomputer market and the portable music product. Both the Macintosh line ofproducts and the iPod have a signature style and innovative features that setthem apart from their competitors. This makes buyers less price sensitive whenit comes to buying the iPod and Macintosh, as it is very difficult to find a productthat has the same features or stylish look. If customers want to avoid Microsoftsoftware and Intel/AMD based PCs, the only alternative would be to purchase aMacintosh computer, creating a niche market out of Apple and in turn makingbuyers less sensitive to price.Additionally, buyers of the iPod and Macintosh computers have lowrelative bargaining power considering they would have to buy in very largevolumes. There is no “Wal-Mart” of electronic stores, so there is no way forindividual resellers such as Best Buy, Circuit City, or CompUSA (to name a few)to bully Apple into lower prices. Apple also has 98 national and 4 international12

retail stores, in addition to its own online store carrying the full line of appleproducts.6 The internet is also a huge selling point for iPod and Macintoshproducts via Amazon.com and Buy.com (to name a few) with the popularity andbenefits (tax free) of at-home shopping.6 Businesses have some relativebargaining power when it comes to purchasing Macintosh computers in bulk foroffice use, but home users have literally no control over Apple when it comes totheir pricing. On a final note, once Apple sells to the end user it has essentiallysecured future sales of its hardware and software due to a lack of third partyoptions. This gives buyers even less relative bargaining power to shop for betterprices or alternatives for their software/hardware needs.Competitive Force 5: Bargaining Power of SuppliersApple uses a large variety of suppliers for manufacture of its computersand portable music players.In most cases, Apple is not limited to a singlesupplier for the various components used in the process of assembly for itsproducts. This leaves Apple’s suppliers with less bargaining power concerningprice in most cases.Apple uses both NVIDIA and ATI for video cards in itscomputers, so it has two choices concerning who to go to. This is the same forits motherboards (ASUSTeK and Ambit Microsystems), Display units (Samsung,Toshiba, International Display Technology), storage devices (Hitachi GlobalStorage Technologies, Western Digital, Seagate), and CD/DVD drives (Samsung,Hitachi Global, and LG. Phillips Co.).5 In most of the other parts in Apple’sMacintosh computers and iPod the situation is the same, giving Apple power toswitch suppliers if needed. The only real exception to this is its current positionwith IBM and its G series processors, as moving to a new processor would haveextremely high switching costs. A customized chip would have to be created toreplace the G series processor as PC and Macintosh computers have completelydifferent technologies concerning the CPU.13

Key Success FactorsCore StrengthsApple has numerous internal strengths that make it a successful andcompetitive company. For one, Apple has a powerful footing in the personalcomputer market by being “different” with its innovative style and ease of use.Its operating system is developed in house, leaving it free from the tangles ofthe dominant Microsoft operating systems. This gives apple a very large degreeof control over its product in the physical appearance, specifications, and overallusability. Apple does all this while keeping its Macintosh computers compatiblewith existing PC computers.Additionally, Apple fosters a research intensiveoffice environment and is constantly releasing products with the current trendsand styles as seen through its latest iPod and Mac mini. This makes Apple oneof the biggest innovators in the computer and portable music industries, beingfirst to bring new and creative ideas to the market.Core WeaknessesDue to their research intensive nature, Apple has high R&D costs, whichmeans that Apple is far less cost effective in a very saturated market. While theycurrently hold 90% of the portable music market, Apple is constantly relying oninnovation to keep it ahead, putting the company in a risky position if its R&Ddoes not come through.1 Moreover, Apple has a hard time selling the Maccomputer to many customers do to the perception that the Macintosh isincompatible with other PCs and software. In other words, customers get scaredof an operating system that looks different then windows and assume it doesn’twork the same. While this is not true, it hinders the ability of Apple to stealaway existing PC users to grow its market share.8 Finally, Apple has problemswith some customers due to the high prices of many of their products. Whilethis has not hindered their sales in the portable music market yet, it can betraced to problems within their computer market sales.14

Market OpportunitiesWithin the industries that Applecompetesopportunities for increased market share and growth.therearenumerousSince Apple is alreadyrecognized as one of the main leaders in the portable music market they havethe ability to further increase their company image and qualityimage reputation. This will allow Apple to maintain their alreadythe personal computer market Apple is expected to sustainsubstantial market share gains in 2005 because customers areawaiting the launch of Windows Longhorn for Microsoft.7 On theportable music side of things, it is speculated that if Apple were toiPod Shuffler Flash PlayerProvided by Apple.comwell established clientele as well as attract new customers. Withinrelease a flash-memory based mp3 player that its music businesswould be worth close to 5 billion by 2006.9 As a final point, many speculate thatApple’s entire line of Macintosh computers will gain market share due to the haloeffect of the iPod.11Market ThreatsThere are many potential threats that Apple faces everyday. The primarythreat that they face is the rapid advancement in technology. Since most peoplejudge the computer on the speed (GHz) of its CPU, Apple has had a hard timewith customers considering the Macintosh inferior incomputers have begun using 64bit technology asopposed to the PC which is still primarily using 32bittechnology.6 This has given Apple a slight edge to theirspeed problem. Therefore, Apple must make sure thatthey stay up-to-date and on the cutting edge ofadvancements and innovations.Image property of Napster.comspeed to the PC. Although, recently the new MacintoshOne slip in their R&Ddepartment and Apple could lose an enormous amount of their market share.One final note is the threat of Napster, Apple’s primary competitor to its iTunes15

music service. Napster has begun aggressively marketing its new service whichallows unlimited music downloads which are “rented” to the mp3 unit while thesubscription is active.This service, costing only 14.95 a month, is the firstserious challenge to iTunes 99 cent per song download business strategy.13,6Whether or not Napster will effectively unseat Apple is yet to be seen, but showsthe vulnerability of Apple’s portable music market share.16

Competitive Strategy AnalysisIn such a highly competitive industry where superior quality and brandimage are key success factors for a computer company, it is necessary forcomputer companies to become cost leaders or differentiate themselves byoffering a unique product. Apple has become known as a computer companythat has innovative and stylish computers and music players. By highly investingin research and development, providing a variety of products, and maintaining aunique brand image, Apple has been able to create a sustainable competitiveadvantage by differentiating its personal computers and portable digital musicplayers.By spending 489 million dollars on research and development alone, Applehas been able to develop innovative products that enable them to maintain aloyal customer base.5 Apple is known for its unique and user friendly productslike the new MAC mini, the all in one design of the eMAC and the iPod which allappeal to the “stylish consumer.”Introducing PC’s in various colors anddistinctive monitors have given Apple a unique image. For example, competitorshave tried to mimic the iPod but the iPod consistently beats out the competitionbecause of its efficiency and stylish design.Furthermore, the multi-colored apple logo has become an unmistakableicon. Apple has been able to build up its image in the past couple of years by itsinnovative products and popular designs. This has given Apple a comparableadvantage because the apple logo is now being associated with quality anduniqueness.17

Accounting AnalysisStep 1: Identifying Key Accounting PoliciesAs a leading competitor in the personal computer market and thedominant firm in the portable music market, Apple has maintained and gainedmarket share time and time again through its focus on creativity, innovation, ahigh investment in research and development (R&D) and brand image.Apple is very limited by GAAP in accurately portraying key successfactors through the use of different accounting policies. As stated previously,Apple invests heavily in R&D and brand image (advertising), 489 million and 206million in 2005, respectively. However, in accordance with GAAP, they are forcedto expense the costs as they are incurred, and are unable to capitalize them.Some latitude is given in capitalizing software R&D expenses pursuant to SFASNo. 86, which states that development costs of computer software to be sold,leased or otherwise marketed are subject to capitalization beginning when aproduct's technological feasibility has been established. However, in 2005,capitalization of software R&D amounted to less than one percent of R&Dexpenditures.Per Apple’s notes to consolidated financial statements, managementidentifies key accounting policies and estimates as those related to revenuerecognition, allowance for doubtful accounts, inventory valuations and purchasecommitments, valuation of long lived assets including acquired intangibles,warranty costs, and income taxes. These policies are deemed important becausethey are critical in the representation of the firm’s financial standing and thatthey require judgments and estimates regarding events that are uncertain.However, the stances taken on these issues reflect industry norms, and arestated very similarly by leading competitors in the respective markets.18

Step 2: Assessment of Accounting FlexibilityApple has very limited accounting flexibility in capturing its key successfactors concerning research and development, brand image, and marketing. Theonly flexibility in their key success factors involves a small portion of its R&Dcosts being capitalized. This leaves management with few accounting policies inwhich they can be flexible, which causes accounting data to be less informativeregarding the true economy of the firm.Flexible Accounting PoliciesAccounting PolicyDegree of FlexibilityResearch and Development*MinimalBrand Image (Advertising)*NoneInventory PoliciesModerateEstimation of Bad DebtModerate to HighAmortization of Goodwill andModerate to HighIntangibles*Key Success FactorApple currently uses a straight-line method over the estimated useful livesof assets concerning the depreciation of property, plant, and equipment, whichare 30 years for building, 2 to 5 years for equipment, and the shorter of leaseterms of 10 years for leasehold improvements. It is of importance to note thatApple, as of first quarter of fiscal 2002, adopted SFAS No. 142, which requiredthat ass

differentiation, and “in a market where everyone except Dell has struggled to make money, Apple has long been highly profitable with only a 2% market share.”12 In 2005, Dell and Apple are speculated to have the most potential to increase market share