The iTunes Profit Myth

February 10th, 2010

In an article for entitled “The Microsofting of Apple?,” editorial board member Holman W. Jenkins Jr., writing an opinion piece for the Wall Street Journal, makes the silly mistake of comparing Microsoft’s predatory methods to compete with its rivals with Apple’s ascendancy in recent years. As with many of Apple’s staunchest critics, Jenkins’ lack of understanding of Apple’s financials and business plans are troubling. Worse, in this case we’re talking about the editorial pages of U.S.’s largest daily newspaper, and a Wall Street icon.

Consider the closing sentence: “An Apple that rolls out increasingly junky devices merely to lock more and more customers into the iTunes-App Store mall is one gloomy possibility.”

Let’s forget for the moment the characterization of Apple’s iPad and other recent products as “increasingly junky devices.” I see no evidence that Jenkins has more than a cursory level of knowledge about the iPad. He doesn’t say whether he attended Apple’s press event rolling out their tablet-based computer last month, or has otherwise had an opportunity to even touch one. Besides, he seems to be more concerned about Apple’s decision not to support Flash, since he feels that approach will deliver a subpar Web experience.

Flash, to Jenkins, is a good thing because it is “installed on 95% of PCs.” He repeats the “McDonalds argument” often voiced in favor of Microsoft ownership of the operating systems market by equating ubiquity with quality. He also wants us to believe that the efforts of Steve Jobs to move us from Adobe’s proprietary standard to the open multimedia standards being considered for HTML5 is somehow wrong. That, my friends, is the polar opposite of what Microsoft has traditionally tried to do, which is to lock people into their own standards not just to enforce their dominant position, but to make lots and lots of money from licensing fees.

Jenkins seems ignorant of the fact that Apple actually earns, at best, modest profits from iTunes and its various online divisions, including the App Store. The piece of the action Apple takes to run the system and process payments largely covers the cost of doing business.

How do I know that? Well, according to Apple COO Peter Oppenheimer, iTunes and the App Store, as of the last financial quarter, were “running a bit over break even and that hasn’t changed.” Sure, I suppose Jenkins can counter that statement by claiming Apple is lying, but that sort of behavior would violate a host of SEC laws. If they were caught fudging the books, they’d face fines and possible criminal penalties, not to mention a severe loss of confidence from the financial community.

The reason there is an iTunes and an App Store is to sell Apple’s hardware, from which they derive the lion’s share of their profits. Besides, whether you purchase product from iTunes is up to you, and nobody forces you to buy a single thing. In fact, if you choose to download something from the App Store, you can restrict yourself to the free stuff. When it comes to the iPod, you can transfer MP3 files to iTunes that you’ve acquired elsewhere (legal and otherwise), or just rip your own CD collection.

Why doesn’t Jenkins realize this? I don’t pretend to have an answer, except to suggest he’s been locked up in his ivory editorial tower for so long that he hasn’t come down to do any real world research.

The problem is that far too many of Apple’s staunchest critics view the company as an amalgam of Microsoft. If Apple gains a huge share of a market, such as digital music, that’s a bad thing. How could it be otherwise, since Microsoft pulled nasty stunts to own the operating system and office suite markets? Big equals bad.

One key reason why any of this is coming up is because Apple may surpass Microsoft in market cap this year. For those of you whose eyes glaze over from such buzzwords of the financial world, Wikipedia states that “Market capitalization/capitalization (often market cap) is a measurement of the size of a business enterprise (corporation) equal to the share price times the number of shares outstanding of a public company.”

In a sense it’s an artificial figure. If the stock market trends downward, a company is worth less, even though sales and profits may remain unchanged, and, in fact, are exceedingly high.

Now to be fair to Jenkins and others who have voiced similar wrongheaded ideas, it is fair to criticize Apple about the lack of Flash support. Certainly customers are being inconvenienced, and the iPhone and now the iPad will definitely not offer a full Web experience until this shortcoming is somehow remedied. It’s not as if Flash will go away tomorrow, or the next year. Far too many Mac and PC users have Flash, and it would require lots of work for Web developers to remove such content and seek other solutions.

Even then, what other solution would they choose? Sure, there is a growing level of HTML5 support in non-Microsoft browsers, but two thirds still use Internet Explorer, and for that app you’ll still need Flash.

One can always hope Apple and Adobe will kiss and make up and deliver a Flash solution for the iPhone OS. Despite all the posturing from Steve Jobs at public and private meetings, that would still be the most reasonable solution.

But lack of support for Flash won’t turn Apple into another Microsoft. When he makes claims of that sort, Jenkins simply demonstrates that he is nothing more than another clueless pundit.

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9 Responses to “The iTunes Profit Myth”

  1. DaveD says:

    Ahhh, the Wall Street Journal (WSJ)…

    Over too many years, the WSJ has an editorial board with a weird conservative bent. But, the news division was always excellent. It presented a neutral fact-based reporting. However, Rupert Murdoch purchased WSJ a few years ago. Though the mindset of the editorial board matched Mr. Murdoch’s, I feared that the news department would go into the same gutter as Murdoch’s other newspapers. The worst case would be to descend into Fox News’ basement full of unfair and unbalanced reporting.

    I do not trust anything coming out of Fox News and am starting to feel the same way towards WSJ.

  2. Al says:

    First up, I would like to echo DaveD that WSJ is slowly going down the toilet. It had a conservative editorial board but its reporting was top notch and surprisingly objective, even more objective than NYT reporting. The objective reporting has been going away, I read elsewhere that the reporters turn in the same quality work but the editors insert loaded language to nuance the reportage a certain direction.

    Rupert Murdoch is like the King Midas of mediocrity.

    That said, I read the WSJ piece on the iPad and like you was totally amazed that a badly researched piece like that would see the light of day in WSJ. That the writer got Apple’s business model totally upside down is quite unbelievable. Especially since the notable thing about Apple’s approach is that it stands convention on its head (cheap printer, expensive ink/toner. Cheap console, expensive games). Having gotten the premise wrong, everything else that followed was drivel.

  3. Matthew says:

    To be fair to the Wall Street Journal, this is from their Opinion section.

  4. Kaleberg says:

    You know the formula: WSJ + Opinion = False

    You can actually take it to the bank if you’re an investor. Just flip the signs, and it’s money talking. That’s WHY I subscribe to the WSJ, though I doubt they’ll ever use this in an ad campaign.

  5. John Brauer says:

    Actually, the decline of the WSJ goes back much farther. During the entire Microsoft anti-trust trial, in spite of it being a major business story with potential for major ramifications, the WSJ published almost nothing about the trial. They did publish MANY Microsoft ads. Since that time, I have seen no indication that the sway of the advertisers has diminished at that paper. When it becomes apparent that one must examine the advertising base of a newspaper to assess the reliability of its coverage, the paper has clearly lost its value. When you consider that the focus of the paper is business news and many of its advertisers are the very businesses about which one wishes to learn in that paper, this loss of value is in a mission critical area.

  6. I personally have concerns about News Corp. when it comes to being a reliable provider of information. This is not an anti-WSJ or Fox News rant either. Their largest stockholder is an Arab businessman who actually gave money to the families of some terrorists who committed suicide for their cause. That ought to make anyone feel concerns about that company and how that sort of influence might carry over to its coverage on some issues. There is no such thing anymore as independence between the news divisions and a company’s stockholders and advertisers.


    • John Brauer says:

      @Gene Steinberg, It is interesting how little play is given to the foreign ownership of such a large news company, especially in light of the enormous impact of the entire organization on American politics and its extraordinary efforts in trying to form American policies and political bodies.

      • @John Brauer, Aside from ownership issues, today’s media companies consider the bottom line and aren’t concerned so much about journalistic integrity except insofar as it builds revenue.

        Some people talk about an alleged “liberal media,” forgetting most of these companies are actually owned by huge conglomerates who care not a whit about polities, but obsess over circulation and ratings and how those factors might impact ad revenue.


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