Monday, 25 February 2013

iWatch - Magic Bullet or Red Herring?

Is it leaking outside?


It's started.

For those unfamiliar with Apple's media-seeding strategy, it goes something like this: Persons familiar with the situation (but who cannot be named) (but who know a bloke called Tim) (who's last name rhymes with Book) ring up selected journalists. Said journalists can be trusted (to know which way the bread is buttered) (and not to reveal their sources). Lo and behold stories appear in trusted East Coast broadsheets and the Google Trends start to spike.

Feel like you're being manipulated? Yeah, I know. But it allows Apple to build a bit of buzz, prep the market for the big reveal and (if it all goes tits up) kill the project and claim it was never there in the first place.

Anyhow here we go again. Those persons familiar with the situation have been out in force at the NY Times, WSJ and good old Bloomberg (who also were recently consecrated with a multi-page interview with a bloke called Tim who's name rhymes with Book. Coincidence?).

Why an iWatch is likely

So it sounds more likely than not we'll see an iWatch trot along, either this year or next. The alternative theory is that this is just an elaborate conspiracy to spike Samsung's wheels. Personally I've always been a fan of Occam's Razor and Sherlock Holmes. A few things occur to me:
  1. Creative Nomad Jukebox: What
    the iPod saved us from
    It's Apple's style to disrupt the pioneers:
     Its very much Apple's style to allow lesser powers (Pebble; Nike) to pioneer a new form factor before crashing the party with something altogether better. Before the iPod there was the Creative Nomad Jukebox. Before the iPhone there was the Sony Ericsson P800. Before the iPad there was the netbook (hey don't knock it; my Dell Mini 9 is still doing sterling service dual booting into Snow Leopard and Windows 7).
    1. Carrying on where the Nano left off: As people noted last year, it was curious that they respun last year's Nano back towards a mini-iPhone form factor, just as the wearable Nano/smartwatch/Pebble hype was just taking off. In the same way Apple ran with it when jailbroken apps on the original iPhone took off, you'd have thought they'd run with obvious user interest in an iPod Watch. Either Apple had completely lost track of what people want (possible. 4.7 inch AMOLED anyone?) Or they had something better up their sleeve.
    2. Plays to Apple' strengths in the war against Samsung: Finally I think an iWatch is a smart tactical move in the war against Samsung. This is because aesthetics matter a lot more for a watch than a phone. A smartphone spends most of the day either in your pocket or in use (where it looks like like every other rectangular screen). In contrast a watch actually has to hang out there on your wrist all day doing little else apart from looking cool and watch-like. That plays to Apple's strengths because Apple digs aesthetics (check out the jewel-like chamfering on the white iPhone 5 is you disagree) whilst Samsung's designs, frankly, suck.
    But even if (or when) the iWatch lands I'm not convinced its the answer to Apples woes (I say "woes" of course in a relative sense. $21bn of quarterly post-capex free cashflow generation is a problem I'd certainly like to have!). As I see it there are pack of challenges facing iWatch the device and Apple the stock which the laudatory blogistas haven't properly thought through.

    I divide this challenges into two categories: the Ergonomic and the Economic.


    The Ergonomic Hurdles: What do you do with a moving postage stamp?


    1) Screen size is a real usability challenge
    Screen real estate is an obvious challenge with a watch. One thing I've noticed - below a certain screen size touchscreen devices don't work properly. A good example is my Xperia x10 Mini. I bought it on a whim precisely because of the extreme cuteness of a fully fledged Android device with a teeny 2.5 inch screen (despite the fact it shipped on Android 1.6 ugh). But in practice that screen size just isn't practical to handle fat fingers and leave room to see what's going on. 3"+ was the way to go.

    The Streetpilot i2 - where's that
    turn meant to be again???
    Similarly in the early days of the satnav revolution vendors played around with a bunch of different screensizes. One potential game-changer was the Garmin Streetpilot i2 which came in at the fabulously low MSRP of $321 (don't laugh. Satnavs were expensive in those days!). The catch was that it packed a minuscule 2.5 inch screen. But while satnavs with 3" screens went like hotcakes, the poor i2 just didn't sell. Of course a satnav isn't a watch, but the lesson was consumer had a very big usability issue once you went below the 3" form factor.

    Going back to the 2010 iPod Nano (the one that looks like
     a postage stamp) you see that screen limits usability. After a promising start (fitness apps! cool watch faces!) little was heard of its potential since that. Sure Apple's energy was devoted on pushing the iOS platform, but you couldn't help but feel they sort of ran out of thinks to do with that 240x240 screen.

    Now you could argue these devices are all slightly different form factors and use cases from an iWatch, but the fundamental issue that there is a massive limitation on utility when you get to what is basically a moving postage stamp.

    2) Touch input is a bottleneck

    This is compounded if you make it a touch screen. Stick a fat finger on top and the viewable space of the postage stamp is basically wiped out. Think about the geometry of the piece - Apple's standard UI guidelines defines a landing spot of 44 by 44 points - roughly 6.9mm square on a iPhone 5. But while you have over 84 possible points of interaction on an iPhone (and over 588 on an iPad) you only have 25 on an 1.5" square watch face.

    The fundamental issue is that the screen becomes a bottleneck for both input and output.

    3) And I'm not convinced voice (or its users) are ready to pick up the slack

    Now you can try to address this with speech-based input but again I think you have a pretty fundamental barrier that people just do not feel comfortable with voice control. It may be a cultural thing but talk out loud to nothingness feels just… weird (how many times have you smirked at the guy in the suit having a concall via Blackberry in the middle of the street?). And that’s before you get into the raft of other issues around background noise, on-device voice processing, foreign languages, regional accents and suchlike.

    I suspect – as with the Pebble – simple buttons are the correct input mechanism – but with a corresponding decrease in utility (unless Apple can convince everyone to learn Morse Code?).

    4) Horsepower and battery life

    With any device there is a trade-off between physical size, compute power and battery life. Normally you can have any one being great, any two being okay or all three being mediocre. The problem is a smartwatch needs both physical size (teeny) and battery life (how often are you used to changing your watch battery?) to be in the "Great" category. With the current state of technology its hard to fit all of that and decent horsepower into the iWatch form factor. Maybe this may change in the future when we get octo-core Cortex A-5s running on 10nm, but that's still some way off.

    The likely solutions is that the iWatch will be tightly integrated into your existing iPhone or iPad (likely be low-power Bluetooth), so will shift a lot of the processing horsepower over to the paired device. But that still leaves you with something of a battery challenge if you're benchmarking against current watch tech, and it also opens up a pack of other issues around your addressible market (see Constrained Market chat below).

    To sum up the ergonomic hurdles: If the iWatch is going to be anything more than a glorified Bluetooth headset, its facing some pretty fundamental physical constraints. Maybe the geniuses at Cupertino can invent their way round these ones, but it’s a tough ask.


    The Economic Hurdles: The Law of Large Numbers


    Then there are the economic considerations. In short – the iWatch is not going to save Apple’s share price.

    Apple's share price vs. LTM EPS - the shares have been driven by earnings upgrades, not multiple expansion
    Let’s rewind a bit. AAPL has always been driven earnings momentum. Even in its glory years it never traded on the heady earnings multiple of, say, a Salesforce.com. Low teens ex-cash P/E at best. What really drove the shares were constant earnings upgrades. The company sold more stuff than people thought it would; its shares became worth more than people thought they were. Not rocket science.

    Revenue growth and the law of large numbers...
    Of course now Apple is a victim of its own success. As the revenue line gets bigger and bigger,  Apple must find more and more new revenue to keep the growth rate standing still. Inevitably the law of large numbers starts to take hold, at the expense of the growth rate.

    So as Apple gets bigger the next big product cycle needs to have a correspondingly greater revenue contribution to drive earnings (and the share price). Apple not only needs to find the next big thing every 2-3 years - the next big thing also needs to be bigger than the last big thing.

    Astute and highly educated observers will note that none of this is rocket science. I'll tell you a secret - with these sort of stocks it rarely is.

    1) An iWatch is Deflationary

    The problem is that recent product launches have been deflationary, not inflationary.

    An iPhone starts at $649 (lets not kid ourselves with the subsidies – you’re paying full whack for it either upfront or over the next twenty months).
    An iPad starts at $399
    An iPad Mini at $329

    But how much would you pay for a watch?

    My bet is it won’t be $649, or even $329 (not it you want it to sell in volumes). The sweet spot for something like a smartwatch is more like $99 or what Logitech used to call the “don’t need to ask your spouse price point”. Nike SportWatches go for $149 and Garmin's Forerunners for $130 - nothing like what you'd even get for an iPad Mini.

    So an iWatch is likely to be deflationary. But there’s more.

    2) An iWatch is selling into a Declining market

    There's an App for that.
    How many people actually use a watch nowadays? A lot less than a few years ago I think. Now there may be aesthetic reasons to buy a watch, particularly at the high end. But for the majority of use cases a watch feels like a classic case of an obsolete appliance.

    Its original purpose in life was to be a device you kept on you all the time which could tell you the time and had an alarm on. Well that’s pretty much covered by any dumbphone you care to mention. Okay you can’t attach your phone to your wrist, but I’ve gotten by without a watch for a decade and a half now, and it doesn’t seem to have done me any harm.

    It strikes me that if you’re going to launch a new product, you launch it into a market that’s growing, not one that’s structurally declining. Again note Apple need to sell a lot of these (especially given the lower price point) to fill the growth hole left by the maturing iPhone/iPad cycle. (Side note: Perhaps I am making a category error here as an iWatch isn’t a classic watch as in “wrist-mounted time and alarm appliance”).

    3) An iWatch is selling into a Constrained market

    The last problem is that if feels like to get the most from an iWatch it would need to be closely paired with a corresponding iOS device (see commentary about ergonomics above). That’s all well and good, apart from the fact that the majority of smartphone users aren’t on iOS devices - they’re on Android. And that gap will only widen going forward.

    Anyone who's tried to use the train-wreck that is the iTunes Windows client will know that if there's one thing Apple hate's its playing ball with rival ecosystems! Chances of you accessing the full functionality of an iWatch from a Nexus device? Somewhere between zero and nil.

    But the flip-side of this is that Apple is likely to be constrained its target market to existing iOS users. In itself that’s fine. I’m sure they will get a great product and a great services (and iOS users have big wallest). But again, remember the law of large numbers and the need to fill that revenue hole - limiting your target market really doesn't help.

    To sum up the economic hurdles: If you’re selling a deflationary device in a declining category into an externally-constrained target market, that’s going to be a tough ask.

    What Apple really needs


    Of course as I mentioned above, much of this is something of a red herring. The issue isn’t whether Apple can do a watch per se (it could as easily be a Smart Glasses, Smart Sweatband or Smart Bumbag, so long as you can get the screen bendy enough).

    The issue is whether Apple can/should do a wearable computing device, and whether they can succeed.

    That is much more interesting debate

    I was having a conversation this week about what the USP of wearable computing really is. To me it comes down to one thing: Context.
    • Walking into a meeting room and meeting a strange new client isn’t useful. Walking into a meeting room and seeing his Linkedin profile along with college and job history pop up on your smartwatch/glass/sweatband is.
    • Walking past a shop and seeing it sells stuff isn’t useful. Walking past a shop and seeing a wiki pop up saying it has a world class reputation for crispy cooked pork products is (to me) massively enticing.
    • Checking out the bus stop across the street and seeing no buses isn’t useful. Checking out the bus-stop and hearing a voice in your ear that a bus which takes you home will pop up in two minutes is.

    For more its worth checking out the hands-on with Google Glass which The Verge put up last week. Google have clearly been grappling with many of the ergonomic issues I've touched on is this post, but come to a radically better (and better-designed) solution.

    To me the value of any wearable compute device isn’t the device itself, it’s the ability to supply context to the physical world around you – this is the true value-add of wearable compute. As a professional analyst, data on its own is meaningless. But data with context is valuable beyond price.

    To me Google Now feels like the service making the most (baby) steps in that direction. Given Apple’s lamentable record in connected services I think they still have plenty of catching up to do. As I highlighted in my last post, they are really suffering from relying on third parties for connected services rather than doing this in-house. To me an iWatch will do nothing to plug the gaping hole in Apple's arsenal. They can do better than this.


    Disclaimer: The views, opinions, projections and / or forecasts expressed in this blog are personal to the author and do not necessarily represent the views, opinions, projections or forecasts of any organisation the author is working for or associated with.

    1 comment:

    1. Hi JT - nice write up as usual. One thing missing form the list is use of the iWatch (with NFC) as an authentication tool? AG

      ReplyDelete