Apple’s Dominance, Data Driven Decisions

Apple’s Dominance Continues

Before we get into the main story about Apple, let’s take a quick look at the scope of its economic dominance. Using rough numbers, Apple currently produces $100B in revenue per quarter: 50% from the iPhone, 30% from laptops, ipads and wearables, and 20% from services. That services component is the fastest growing with the highest margin and includes businesses like the app store. Apple charges a 30% commission to sell through their app store, pure profit. Epic Games (the owner of the Fortnite game) recently sued Apple to bypass and fight this 30% fee and lost. Apple is big, but it doesn’t have a true monopoly (see Android).

Apple’s IDFA is the main story in this article because it adds to market turbulence during an already very turbulent time. IDFA stands for Identifier for Advertisers, and it’s the unique Apple ID that advertisers use to confidently tie ad spend back to actual purchases. When you see an ad for Nike shoes and click to buy it, Apple’s IDFA allows Nike and other 3rd parties to calculate precisely how much it costs to advertise to you to generate that revenue. This precision enables sellers to double down on their most profitable customers.

Apple hastily transitioned IDFA to an opt-in-only system via their IOS update in February 2021. This effectively killed IDFA. This change started to show up in Q3 2021 financial data. Meta (Facebook) uses Apple’s IDFA product to sell ads. It’s estimated that the change cost Meta an immediate 15% drop in revenue. Meta is down 40% year to date, and at least half of that performance can be traced back to this IDFA change.

Apple already knows each customer and everything they do on that device because Apple owns the operating system and they produce the phone. Apple is the primary custodian of customer data, and regulators don’t want to see that data leave Apple. You might see where this is going… Apple is building an internal advertising network to re-open the door for retailers to target their most profitable customers.

This is an excellent example of the unintended consequence of regulation: regulatory capture. Regulation often benefits incumbents, making the strong even stronger. In this case, privacy regulation reduces competition and gives Apple valid reasons to increase the dominance of their business at the cost of other market participants. Apple’s brand and dominance are great justifications for Warren Buffett’s admiration for the company. Apple stock is now 42% of Berkshire Hathaway, and he continues to add to his position even at today’s prices.

Advertising is a massive sector of the global economy, and Google, Meta and Amazon account for 75% of digital advertising spend (a $500B annual market). The IDFA changes are dramatic and cause considerable short-term pain during an already turbulent time. The speed of this transition is in part due to overly aggressive GDPR regulations (Europe’s internet privacy policy). Even though these IDFA changes and the upcoming ad network benefit Apple tremendously, don’t feel too bad for Meta or Google. They have the teams and the budgets to figure out highly effective solutions to this problem over the next few years.

Tesla’s data-driven decisions

Teslas are essentially computers that also happen to be cars. Given their constant connection to the internet and significant processing power, it’s easy to gather data on driver behavior. As a result, Tesla uses driver data to selectively roll out features to its most responsible drivers.

Tesla calculates driver safety using five metrics: forward collision warnings per 1,000 miles, hard braking (.3g force), aggressive turning (lateral .4g force), unsafe following distance at greater than 50 mph, and forced autopilot disengagement. You can’t manage what you don’t measure.

Full Self Driving beta features – Tesla’s AI-driven autopilot – are now selectively available to drivers with a safety score of 93 or higher.

Update on the Fed and markets

We’re still in a holding pattern regarding inflation and the Fed. Energy prices like natural gas and diesel are causing the most pain. 40% of electricity in the United States is generated by natural gas, up 120% year to date. Diesel, the go-to fuel for transporting goods, is up 44% year to date. These underlying energy costs impact every step of the supply chain. That ultimately leads to higher prices for the consumer, whether Amazon packages, shoes arriving on shipping containers, or flights.

The Fed has said it will not relax rate hikes and QT until it sees signs of inflation abating. The sooner we can get energy prices down, the better. In the meantime, market prices have finally stabilized (per our definitions), making it slightly easier to allocate new capital. The liabilities-driven investment framework helps manage portfolio risk in both current and future allocations. We’re going to cover more about that framework next week.