Why Apple must evolve or become defunct like others before it

Over the past 15 months, the Apple stock has fallen by 20% to 25% and now trades at a price-earnings multiple (the current market price of a company share divided by the earnings per share of the company) of around 12, which is not particularly high for a technology company that makes products so beloved by consumers.

I do not subscribe to stock picking and, as such, can offer no particular guidance on Apple as an investment vehicle. Instead, inspired by my book Brand Breakout, I reflect on the sustainability of brands in different product categories using Apple as the provocation.

Driving perceptions

In Figure 1, I array product categories vis-a-vis the relationship between product quality and brand reputation. On one end, you have product categories where objective product quality primarily drives brand perceptions. At the opposite end, there are product categories where the brand reputation primarily drives product quality perceptions.

In electronics, the firm with the best products also tends to have the most popular and admired brand. It is an industry where new products come fast and furious, and brand perceptions are typically driven by the innovativeness of the firm’s most recent products. Therefore, no firm stays on top for long. Sony topped the lists with its Walkman and PlayStation, then Nokia and Motorola with their mobile phones, and then Research in Motion (now BlackBerry Limited) with its BlackBerry. Currently, Apple has the coolest and most innovative products and, therefore not surprisingly, is also considered among the world’s most valuable brands.

In contrast, cosmetics is a product category where quality is ephemeral. Who can objectively judge whether one perfume smells better than another? And pretty much all anti-aging creams, despite their claims, cannot stop nature’s processes. In this category, cosmetic companies develop the brand promise and brand positioning first, then the product packaging, and finally the product itself. It is a pure marketing game. Customers, and even experts, cannot judge product quality independent of price; whereas in electronics, experts can judge product quality independent of price.

Between the two extremes lie other product categories:

• Automobiles, where products are important but image plays an important secondary role.
• Consumer packaged products, such as detergents and diapers, where both product quality and brand image matter equally in the consumer decision-making process.
• Apparel, where brand image dominates product quality, although not to the same extent as for cosmetics.

One size doesn’t fit all

In marketing brands, one cannot usually apply the dominant logic of one category to a different category that is placed on a different point in the spectrum.

The best illustration of this is a story related to me by a brilliant brand manager, participating in a class I was conducting about a decade ago. It was about an experience she had at Procter & Gamble many years prior to attending my class.

P&G, tired of struggling against private labels in the consumer packaged goods space, coveted the higher margins of the beauty business. Viewing the cosmetics business as pure marketing play, and one where P&G believed its legendary marketing capabilities would make it a natural owner, it acquired a relatively small company based in Switzerland that manufactured and marketed premium cosmetics and perfumes. After the acquisition, a P&G brand manager was deputed to help implement P&G’s world-class marketing process in the newly-acquired firm.

Despite its marketing reputation, P&G always believed in starting the marketing process with a great product (better than competition in objective quality tests) developed through research and development. The young brand manager selected the ladies face cream category and asked for all major brands in the market to be brought to her so that she could test their objective quality. Several brands ranging from $2 to $200 were presented. The head of the acquired firm tried to gently explain to her that the beauty business does not work this way. Our brand manager went ahead with her objective quality test, and predictably, found no substantial differences.

After her story, I asked her, “Well, given this test, you should be using the cheapest brand in the market?” Her response: “No, I use the $50 one. Who knows, it may work!”

As has been famously said about this business, “in the factory we make cosmetics, in the store we sell hope.”

Building sustainable advantage

Last year, the decade-long flirtation with the beauty business ended for P&G when it sold 43 beauty brands, generating revenues of $5.9 billion. As Chief Executive Officer AG Lafley observed: “We start thinking we are a beauty company and we spend all our time at the Oscars or the Grammys or the Fashion Week, which now runs for months, and we don’t stay focused on the consumer.”

Technology companies with a product focus like Sony, Nokia, Motorola, Blackberry and Nintendo face the challenge of having to continuously develop the best product in the category, and as a result, find sustainable competitive advantage fleeting. However, this is not true for technology services companies.

The brilliance of former IBM Chief Executive Officer Lou Gerstner’s strategic transformation of the American technology company was based on this insight (the complete story from this angle is elaborated in my Marketing as Strategy book). As he observed: “Technology changes much too quickly now for any company to build a sustainable advantage on that basis alone.”

He moved IBM from a product to a services company. Yes, the margins and sexiness quotient are lower in the services business, but ultimately, it is more enduring.

This brings us back to Apple and whether it is doomed to fail. My answer, like a good academic: it depends; on whether they stay a product-driven company or evolve into a services company via businesses such as Apple Music.

Nirmalya Kumar is Member-Group Executive Council at Tata Sons and Visiting Professor of Marketing at London Business School. His Twitter handle is @ProfKumar. This article is written in his personal capacity.