Cracks appear in Apple's "walled garden"

On January 29th, according to foreign media reports, Apple has become the most eye-catching tech giant with its unique "walled garden" strategy. This strategy has brought tremendous profits to Apple, but it has also brought unprecedented challenges.

Apple's "walled garden" is not just a simple business model, but a complete ecosystem that integrates hardware, software, and services. The core of this ecosystem is to firmly bind users to its platform, ensuring a steady stream of revenue. However, this strategy has also raised a series of issues that Apple cannot avoid, such as scrutiny from regulatory agencies, defection from partners, and vigilance from competitors.

Although Apple's hardware business has performed well, sales of some devices have started to saturate or even decline in recent years. In order to maintain its revenue growth, Apple has to rely more on its services business, including subscriptions and sales commissions from the App Store. This dependence puts Apple in a delicate position, as it needs to increase revenue while not angering regulatory agencies and partners too much.

Even in the tech industry, Apple's "walled garden" appears particularly closed. This closed nature is not only reflected in the integration of hardware and software, but also in the difficulty for users to switch to other platforms once they enter this ecosystem. This high switching cost has led to high user loyalty for Apple, but it has also raised concerns from other companies and regulatory agencies.

Apple is trying to maintain its "walled garden" through a series of strategies, but these strategies seem to be increasingly causing resentment among regulatory agencies and other stakeholders. Apple's responses may only further anger them. In some cases, Apple may even get involved in more complex legal disputes, threatening its business globally.

Nevertheless, Apple is still a giant with a market value of over $3 trillion, and it may only compromise on the rules of its software and hardware ecosystem under court rulings and legal pressure. A recent example is a court ruling in the United States that requires Apple to allow software developers in the App Store to guide customers to use payment methods outside of the store. However, Apple did not fully comply with this and instead took a compromise approach, allowing developers to pay a commission of up to 27% (originally 30%) to Apple.

In documents recently submitted to the court, Apple defended its compliance approach, emphasizing that the judge did not require it to completely waive any commissions. Behind this decision lies Apple's deep consideration of revenue. Although Apple has promised to comply with a European law that allows apps from outside its App Store to be loaded onto iPhones, it will impose new fees and restrictions on these apps.

In terms of revenue structure, the services business has become a crucial pillar for Apple. In the last fiscal quarter of the 2023 fiscal year, ending in September, the services business generated a revenue of $22 billion, accounting for one-fourth of Apple's total revenue. This number not only exceeds half of the iPhone sales in the same quarter, but also highlights the crucial position of the service business in Apple's overall revenue. Moreover, the service business has a gross profit margin of 70%, far exceeding the hardware business's 40%, making the service business a key driver for Apple to pursue higher profits.

The stagnant or declining hardware revenue has forced Apple to seek new growth points. The warning from a Barclays analyst is not unfounded. The lackluster sales of iPhones and Apple's strategy of discounting iPhones in the Chinese market, as well as removing the blood oxygen sensor from smartwatches, are all responses to this pressure.

At the same time, Apple's next important hardware product, the $3,500 mixed reality headset Vision Pro, is expected to remain a niche product for a long time to come. This device will not include applications such as Netflix, Spotify, or YouTube owned by Google when it is released, which undoubtedly poses a greater challenge for Apple, as these applications are closely related to the high commissions Apple charges in its app store.

However, despite facing many challenges, Apple still adheres to its "walled garden" strategy. Independent developer Aaron Vegh, who has developed iPhone and iPad applications for companies such as Warner Bros. and Disney, wrote in a recent blog post that because Apple's newly launched mixed reality headset is subject to the same restrictions in the app store as the iPhone, he hopes this device fails.

If Vision Pro is really the future of computing as Apple claims, it may be a closed future that restricts developers' access to the device, and all software sales and related transactions must go through Apple and be subject to Apple's approval and commission. This is in stark contrast to the open and flexible computing platform of Mac, which Mac users can manage on their own. Vegh said, "I criticize Apple because I care, but I am worried about the future direction of Apple."

This sentiment is becoming more common among Apple developers, who rarely express such views publicly in the past. However, the court battle between game developer Epic Games and Apple over Apple App Store commissions has emboldened many critics to speak out.

An Apple spokeswoman responded that the company's policies allow developers to communicate directly with users outside of the applications, discussing other payment and purchasing methods. She added that Apple also allows applications that provide content such as books, news, audio, and video to offer content for purchase outside of the app store.

Cook defended Apple by stating that compared to physical retailers, Apple's sales commission in the app store is lower. In addition, Apple's share in the global smartphone market is not the majority. He also pointed out that a portion of Apple's revenue is used to develop tools for these developers. The company has commissioned a study that found that in 2022 alone, the total sales of its app store reached $11 trillion, of which 90% did not pay commission to Apple. This calculation method is based on Apple's commission only from software and digital products. For example, this $11 trillion includes every Uber ride, Amazon purchase, and travel booking made through iPhone applications.

Paul Haddad, the developer of social media apps Tweetbot and Ivory, pointed out that Apple's app store commission has many tiers that take advantage of certain types of apps, resulting in an unfair system. For example, ad-based apps do not pay a specific percentage of ad revenue, news organizations pay lower commissions if they join the Apple News program, and streaming services can bypass the Apple tax by handling subscriptions outside of the app store.

Haddad also stated that the 27% commission is "a complete insult," and "what I want to say is that they are trying to be fair, but they never quite get there until they bring the commission for all apps down to around 5% to 10%."

Horace Dediu, an industry analyst specializing in Apple's mobile business, is optimistic about the future of Apple's services business. He predicts that Apple's services revenue will continue to soar and may even surpass iPhone revenue in the future. In his view, the steady growth of Apple's services business seems unstoppable and is a key factor driving Apple's market value surge. Since early 2023, Apple's market value has risen by 50%.

Dediu emphasized, "The data I have on Apple's services business shows a linear, consistent growth trend with no apparent seasonal fluctuations. This predictability is what Wall Street favors."

He believes that Vision Pro will further drive the growth of Apple's services business. Expenditure on consumer experiences, which previously may have required people to leave the comfort of their homes, can now be converted into transactions within the household. Dediu pointed out, "Apple's current goal is to attract as much consumer spending outside the home into the home environment as possible."

However, Apple's "walled garden" strategy has also attracted the attention of regulatory authorities. The judge in the Epic v. Apple case may review whether Apple has complied with its orders, and the European Union has not given up its fight against Apple. In addition, the U.S. Department of Justice is preparing to file an antitrust lawsuit against Apple.

Dediu believes that there are currently about 1.2 billion iPhone users worldwide, and more than half of the U.S. smartphone market is dominated by iPhones. These data indicate that compared to Android devices, Apple attracts wealthier and more attractive American consumers. Therefore, although Cook believes that Apple faces competitive pressure, it is becoming increasingly clear that in order to reach the ideal consumers, both marketers and developers must rely on the Apple ecosystem to achieve their goals. This could be the most compelling reason for regulatory authorities to decide to put an end to Apple's seemingly unstoppable growth.

Article source: Tencent Technology, original title: "Cracks Appear in Apple's 'Walled Garden'"