Apple 2012 Case:
Comparing the Attractiveness of the PC Industry and Smartphone
Industry

Group 7
Mark Wells
Haibo Jiang
Mengran Wang
Da Huang
Yiren Guo

The personal computing (PC) industry as we know it today emerged in 1978 when Apple released the
Apple II, the first “consumer-friendly” PC unit. Three years later, the industry radically changed in response to IBM entering the market with a PC running on Microsoft’s DOS operating system (OS) and a microprocessor (CPU) built by Intel.
Prior to IBM’s entry, Apple lead the industry and enjoyed a favorable industry structure characterized by few competitors and few alternatives for buyers. PC CPUs were still in their infancy, and Apple’s vertical integration strategy – relying on its own proprietary design and refusing to license hardware to third parties – had few disadvantages. The introduction of the easily cloned (i.e. open to other producers)
IBM PC was not only devastating for Apple in the short-run (its net income fell 62% between 1981 and
1984), but also irrevocably altered the PC industry.
IBM’s entry into the PC market introduced the concept of a standard PC model, culminating in the early
1990s with the “Wintel” – machines running Windows OS on an Intel-based processor. The Wintel began a trend that quickly commoditized the PC. Due to the Wintel’s standard hardware and software, thousands of PC manufactures were able to enter the market (i.e. the threat of new entrants is high).
Today, even individual consumers are able to build their own Wintel, and generic PCs, known at Whiteboxes, account for nearly 30% of the overall market (Exhibit 3).
The advent of the standard PC effectively shifted the bargaining power of PC manufactures to their suppliers and buyers. While hardware suppliers offering commodities such as memory, disk-drives, and keyboards continued to have little in the way of bargaining power, microprocessor suppliers, namely
Intel, which commands roughly 80% of the PC CPU market, became exceptionally powerful. Similarly,
Microsoft, the supplier of the Windows OS, captured 90% of the PC OS market, granting the corporation remarkably high barraging power with PC manufactures.
Buyers also benefitted from the standard PC model. Standardized hardware and software effectively eliminated switching costs associated with moving from one Wintel machine to another. Only consumers switching between operating systems faced the risk of their software and peripherals being incompatible. This, coupled with the fact that manufactures’ products were largely indistinguishable, lead to a notable decline in PC’s average selling prices (ASPs) as manufacturers fought over pricesensitive customers. Even as PCs became increasingly powerful, consumers refused to let manufacturers raise prices. Prices were also capped by a growing number of viable substitutes, like smartphones and tablets. By 2011, the average PC manufacturers ‘net profit margins had fallen to only
5% (Exhibit 2).
As PC manufacturers’ net profit margins’ declined, so too did their incentive to invest in research and development (Exhibit 4). Rather than invest in innovative PCs, manufacturers began eyeing more attractive industries – industries that produced a growing number of threatening substitutes for PCs, such as tablets and smartphones (i.e. the threat of substitutes is high).
For the sake of brevity, we will examine only the smartphone industry below: Please also note that this analysis looks at the buyer exclusively from an end-consumer perspective. This decision is a function of the information (and lack thereof) provided in the case.

Unlike the PC industry, barriers to entry in the smartphone market are quite high. Examining smartphone OEM market share in the United States (Exhibit 5) reveals five manufactures control around
88% of the U.S market. New entrants not only need to produce a phone, which is arguably more challenging than building a PC, but must also compete with incumbent firms’ superior