iPOD capacity vs. content

May 27, 2006

iPOD capacity vs. content

(c) copyright, View from Silicon Valley, 2006. All rights reserved.

The bloviating over Apple and the iPOD (and even the NAND IC market) story continues to build. Reading the headlines one might believe Apple single-handedly and simultaneously invented the world's best-ever consumer electronic gadget and a new business model for music (and even video) entertainment. (Doesn't anyone else remember the Atari video game craze?)

Certainly, iPOD has been a critical and, more importantly, commercial success. It's been the "must have" item for a probably 18 months now, which approaches the record held by such previous icons as pet rocks, Furby and cabbage patch dolls but with a much higher price-- and profit margin. There are even research houses (GaveKal in particular) extolling the sustainability of a business model for American "platform companies" in which they invent something but never touch it. Finance people are actually claiming the farming out of low-margin manufacturing business to Asia will insulate America from ever having a severe recession.

Does anyone really believe Asia will continue to just assemble things, with no profits, and not try to move up the value chain. Didn't the US steel industry use this argument in the 70's when they were forced to cede the low-end "re-bar" market to the Japanese? Does anyone remember how that turned out?

Back to the point at hand, maybe the hype is true? Maybe the whole world's population will eventually pony up $69 to $300+ for a chance to plug in and drop out of social society.

We find it interesting to observe Apple has, so far, dodged credit for another phenomenon-- music copying.

To derive some numbers, you heard at year-end 2005, "Since unveiling the iPod in late 2001, Apple has sold more than 28 million of the music players," and, "Apple sold 22.5 million iPods in its 2005 fiscal year, and analysts have said it could come close to doubling those sales in its current year, which began last October." (Apple runs an October-to-September fiscal year.)

Then January 18, 2006, "Speaking to an audience at the company's Macworld conference in San Francisco, Jobs also said the company sold 14 million iPods ...during the (December) quarter."

Side note #2: Just for fun, we noticed they described sales as "207 percent growth in iPods over the year-ago quarter," implying the December, 2004 quarter saw 4.5M units sold. Expressed as growing from 4.5M to 14M, it's not hard to see why the financial press is excited. There is no dispute Apple is selling a LOT of iPODs. On the other hand, the PC market sells ~60M units a quarter (<1M 2Q06 MACs, by the way), or ~7.5 times iPOD sales. Eight million units a quarter (the estimated 2FQ06, or January-to-March, 2006 quarter sales) is better than a sharp stick in the eye as my grandmother used to say, but it is hardly earth-shattering measured against 60Mu PCs or ~$52B+ in semiconductors sales every quarter.

Back to the point again, it is hard to find comparable details on iTune sales. Neither of the above PR blurbs makes reference to actual iTunes unit sales generated via Apple's vaunted "unique" value add. Wasn't the genius story about iPOD supposed to be ease-of-use with iTunes? Weren't people literally throwing away their old MP3 players because iPOD with iTunes was easier to use?

Keep in mind the recording industry, largely represented by RIAA (Recording Industry Association of America), publicly stated consumers wishing to create a back-up copy of their music should go out and buy another copy. A recent RIAA headline insisted, "RIAA Says Ripping CDs to Your iPod is NOT Fair Use." However, these paragons of consumer-friendliness support the iPOD "story" because it finally(!) creates an avenue through which people will download at least some digital music and actually pay for it.

Given this "story," don't you wonder why Apple's recent press releases make no mention of iTunes unit sales?

One RIAA-related site suggested January 3, 2006, iTunes is, "hurdling towards one billion a-la-carte downloads." They estimated 980M paid downloads as of February 6, 2006. Ignoring the 30-day mis-match in duration, let's take 42M iPOD units sold vs. 980M downloads sold and cipher out 23.3 downloads per iPOD. Just to make the numbers easier to work with, let's round it up to 25 iTunes per iPOD user.

In turn, Apple claims 1Gigabyte is enough capacity for 240 songs. A full-up 20GByte hard-disk-based iPOD therefore holds 4,800 songs.

Let's make an arbitrary assumption the "average" iPOD in the hand of a consumer today holds 2GByte (matching the new Nano introduced 4Q05). The result is our "average" iPOD user has capacity for 480 songs of which only ~25 are from iTunes.

This works out to 5.2% of the capacity occupied by content acquired via RIAA-approved processes. If the "average" iPOD is 80% full, our "average" iPOD user then has 360(!) songs from non-iTunes sources. Said differently, ~93% of the contents of the "average" iPOD are ripped CDs and/or pirated content. (Even if you cut down to a 1GByte device and double to 50 iTunes per user and you still get 74% non-iTunes content.)

Yet Apple is lauded for their "breakthrough" business model "proving" consumers will pay for content if the delivery system is simplified? Hmmm...

On a related note, a February 15, 2006 Semico Spin observes, "Without much fanfare Apple lowered prices for their iPod shuffle and introduced a smaller-capacity 1 gigabyte version of their extremely popular iPod nano." Followed by, "it is interesting the company chose to reduce prices. This perhaps gives some credence to stock market rumors the company recently trimmed back its forecast under the cloud of lower acceptance than expected."

Since you rarely (never?) read anything negative about the semiconductor industry from Semico, this comment really stood out! Since this February blurb, DRAMeXchange documented NAND prices are down at least 50% with the high-capacity 8Gb & 16Gb IC's (heavily used in iPOD Nano) down 69% & 58% respectively.

This becomes a chicken-and-egg question. Are NAND sales prices down because iPOD Nano is missing volume targets? And so Apple has to cut prices to move volume but can still preserve margins? Or is this NAND price decline a happy coincidence for Apple and they get extra margin on constant, or even growing, sales volume? Given how Wall Street works, you can predict which way this "story" will spin. In turn, it may actualy preserve the Apple stock price for another quarter or two before iPOD unit sales can be proven up, down or flat.

The Semico comment above was followed by the aspect we submit is really most relevant to Silicon Valley, "it has given stock analysts concerns that NAND prices, which have been flat since July, are about to resume a downward path, so these analysts have lowered their outlook for NAND suppliers." (Which turned out to be spot-on, as of the April NAND-price statistics.)

Not to worry, Semico concludes with, "Instead of a price collapse we expect to see prices drift lower to trigger additional demand, firming for a while later in the year." Apparently, nobody in the semi business needs to turn an actual profit in Semico-land?

Conclusion: Despite Apple's business model being de facto endorsed by the RIAA, up to 90% of the songs on the "average" iPOD are not what RIAA classifies as "fair use." In addition, even an industry cheerleader like Semico sees saturation and a slow-down in iPOD (and therefore NAND IC) sales.

Apple is happy to get credit for the iTunes idea but somehow manages to avoid blame for the 75% to 90% of iPOD content ripped from CDs or other "un-approved" sources.

Now that's a "story!"