If He's So Smart...Steve Jobs, Apple, and the Limits of Innovation

In terms of its innovative legacy, the iPod and iTunes together probably represent Apple's greatest achievement since the introduction of the Apple II in 1977. First, because they mark an important evolution inside Apple as it moves further away from its roots as a PC company and closer to a new role as a consumer-electronics and entertainment shop. Promoting the Mac as the "hub of a digital lifestyle" certainly indicates recognition that Apple may do better to cut its losses in the PC business. In this arena, Apple may benefit from its consumer focus, artful design, and strong brand equity.

ITunes also deserves recognition as Apple's first foray into business-model innovation. It is, after all, nothing but a novel distribution and pricing arrangement. Apple's ability to get users to pay for songs, rather than steal them, also convinced the recording industry that digital-music delivery was worth supporting. Without this leadership, Roxio Inc.'s Napster 2.0 and Dell/Musicmatch might never have negotiated their own digital-rights agreements.

Still, Apple may have learned these important lessons only partially, and too late. The iPod works only with the iTunes service, and has a $0.99 fee-per-song pricing structure. Dell/Musicmatch and Napster offer consumers more choice. Their Windows-based players and services are interchangeable; they sell individual songs and let users listen to (but not keep) as much music as they want for flat fees of less than $10 per month. Meanwhile, the $15 million or so that iTunes has generated in revenue thus far is statistically meaningless even for Apple. And after it has paid the music labels and covered its costs, Apple is left with just pennies per song. Even using a generous operating margin estimate, iTunes won't turn a meaningful profit until it hits Jobs's stated goal of 100 million songs sold. Jobs has said he hopes to do so by April, but at the current rate of 1.5 million songs sold per week, that is more than a year away.

And the competition is swarming. Dell and Samsung are challenging enough, but this business is about to turn into a battle of the titans. Wal-Mart is launching a cut-price online music store of its own--and now Microsoft and Sony, no less, are joining the fray. So Apple's venture into online music is beginning to look like yet another case of frustration-by-innovation. Once again, Apple has pioneered a market--created a whole new business, even--with a cool, visionary product. And once again, it has drawn copycats with the scale and financial heft to undersell and out-market it. In the end, digital music could turn out to be just one more party that Apple started, but ultimately gets tossed out of.

Sidebar: Tuscan Stone?

Early on a sunny Saturday morning in July, a line of eager people stretches down the block and around the corner. Sleeping bags, camping chairs, and food are scattered evidence of a long night on the sidewalk. These eager fans--groupies, really--aren't faithful followers of the latest cult rock band: They're here for the opening of the newest Apple store, in the sleepy Bay Area town of Burlingame, California.

When the doors finally open at 10 a.m. to the rousing strains of U2's "Beautiful Day," a double line of 35 Apple Store employees clap to the music and high-five the cheering sidewalk sleepers as they pour into the store. Ron Johnson, Apple's vice president of retail, enters a few minutes later with his two children and is greeted like a rock star. It's quite the reception for an opening that's hardly novel: Burlingame marks the 63rd addition to Apple's retail chain--and the fifth in an already crowded Bay Area market. But these folks don't seem to notice.

The store is done in iPod shades of white. "We chose hand-selected Tuscan stone for the floors--a stone that's somewhere between sandstone and limestone," Johnson says. "It's the same stuff Florence was built on." Each store boasts a Genius Bar, where customers can get technical support from Mac experts. Apple products are laid out on broad tables that are grouped by category: photo, music, movies. They're configured with speakers, iPods, and other peripherals so that users can see how an ideal "digital media hub" works. "The real reason we're here is to drive market share, so we devote most of the space in the front of the store to our products and the experience of them," Johnson says. "I'd love to see Apple get back to 15% market share someday."

Well, sure. But two years since the launch of Apple Stores, it's still unclear whether the strategy has moved the needle at all. Apple claims that 50% of all its retail-store buyers are new to Macs (some buying their first computer, others switching from Windows machines), but analysts such as Roger Kay, from the technology market research firm IDC, dismiss any notion of progress. "They're losing as many to Windows as they're gaining."