APPLE'S BUSINESS MODEL VULNERABILITY, EXPOSED BY A FRENCH UPSTART

This blog first appeared as Steve Wunker’s piece for Forbes
 
By: Steve Wunker

Free Mobile is a company few Americans have heard of, yet it is up-ending Apple's prospects in France.  Analysts are blaming the firm for driving down iPhone sales by 10% in the past quarter alone.  How?

Free is a classic example of "disruptive innovation," a term coined by my mentor Clayton Christensen.  The company is offering unlimited domestic calls and texts, free calls to many international countries, 3 GB of data per month, and no contract commitment -- all for $25 a month.  In exchange for this exceptionally good deal, subscribers give up some of the benefits associated with traditional mobile carriers.  Verizon and AT&T are two of the world's biggest advertisers, while Free barely advertises at all.  Traditional carriers can invest massively in proprietary applications; Free doesn't.  Most critically, carriers often subsidize handset prices by hundreds of dollars, but Free doesn't subsidize handsets at all.  If you want a new phone, you buy one yourself without it being tied to any carrier ("SIM-free").
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As often happens with disruptive innovations, the incumbents initially downplayed the upstart's significance.  No longer.  Free has won nearly 3 million subscribers in its first three months, and the incumbents are facing intense price pressure.  Carriers around the world are taking notice.  Many have resisted becoming a "dumb pipe" for communications, wanting to believe that they could earn a price premium through distinctive services and brands.  Free has demonstrated the latent demand for a cheap, reliable, dumb pipe.  It seems only a matter of time before the model is replicated in country after country.

This is a major problem for Apple.  The most basic iPhone 4S sells for €629 without the carrier subsidy, while entry-level Android and Windows phones are priced around €299.  Unsurprisingly, people who have to pay the full price for a handset flock to the less expensive, and technically quite solid, Android and Windows offerings.  The iPhone has always been expensive, reliant upon big subsidies from carriers trying to stand out from their competitors.  Strip away the subsidy and Apple either has to cut price dramatically, decimating its profit margins, or accept a much lower market share.

Either way, the iPhone's struggles could have a big impact on the rest of Apple's offerings.  Think of the people you know who own an iPad -- which ones don't also own an iPhone?  The iPhone is the lynchpin of Apple's presence in consumers' lives.  Without the synchronization, apps, and constant usage of an iPhone, there isn't much need to own the full complement of Apple products.

Companies can parry technological threats through savvy engineering.  They can meet marketing threats through upping their spending and better segmenting their customers.  But business model threats?  The record for incumbents is very poor.  Apple doesn't have many good options if Free's model spreads.  All the brilliant engineering and marketing in Cupertino can't compensate for a business model rooted in carrier strategies that seem increasingly outdated.