Apple may develop digital payments platform

The critical debate in mobile internet business models is whether the bulk of usage will move to browser-based applications, held in the cloud, as argued by Google; or stay mainly with downloadable software, as now. The device makers need to position themselves for either, especially if they aim to increase the percentage of their revenue that comes from software. Clearly, downloads are simpler to control and charge for, via device-specific stores like iTunes, but as we have discussed in relation to Apple’s possible rejection of the Spotify cloud music streaming app for iPhone, even powerful vendors cannot assume their preferred model will win out.

So the decision for a company like Apple may not be browser versus download, but software versus hardware as the driver of revenue - optimizing gadgets for effective streaming so that they can be sold at a premium and become highly desirable for users of cloud media; rather than trying to jostle for position in the online content value chain. Apple should be in the best position to stick to the hardware model, given the popularity of its iPhone and iPod Touch for all kinds of web and content activity, and the high margins it commands for its hardware. If its model remains fairly stable, iTunes and App Store will continue to drive adoption of its devices, rather than contributing significantly to revenue and margin in their own right.

New calculations by Berstein Research and Deutsche Bank both point to Apple collecting a disproportionate slice of the handset sector’s profits, given its sub-2% market share. According to Bernstein’s Toni Sacconaghi, iPhone sales accounted for 8% of handset industry revenues in the first half of 2009, though the company had about 1.9% of unit share. These modest figures delivered a huge 32% of the operating profit in the segment though. “Even if we exclude the operating losses generated by Motorola and Sony Ericsson, Apple still accounted for 25% of industry profits,” he wrote in a research note. This is a familiar equation for Apple, whose Mac generates 6% of sales in the PC market, but 25% of the profits.

But Sacconaghi warns that it will be harder for the vendor to maintain this balance in phones than in PCs as first mover advantage and brand impact are more easily lost in this fickle sector, and Apple will have to keep reducing prices in order to remain competitive. In the ongoing debate over whether Apple will, or should, go after the mass voice/text oriented cellphone market, Sacconaghi is on the ‘yes’ side. “We believe Apple will ultimately need to lower price (and margins over time) to expand its addressable market opportunity, including offering a lower cost, non-data plan iPhone,” said the note.

And Apple may be preparing itself for even more extreme outcomes, and possibly a squeeze on its hardware profits and a forced shift to a greater software/services mix. According to Silicon Alley Insider, the firm is working on a digital payment platform for iTunes and App Store, something that most of the web majors are likely to pursue as they seek greater control of the content value chain, and the ability to set the rules. Facebook is a key player, planning its Pay with Facebook system for PCs and mobiles, and introducing increasingly rigid rules (reminiscent of Apple’s own) for advertisers.

The rumored Apple payments platform would enable iTunes, and potentially App Store, account holders to make purchases at participating retailers across the web, not just within iPhone applications - which is as far as the Apple money ecosystem stretches so far, though even this has expanded with the addition of in-app purchasing.

However, broader influence of the payments chain would not necessarily help margins. In the current iTunes system, developers pay 30% per transaction, but clearly the percentage Apple could take would be far lower in a less controlled environment, with many elements - including tough negotiators like Amazon - claiming their cut of any sale.

As for the currently dominant app store model, will there be significant pricing differences between the various shopfronts? RIM has gone for a ‘quality not quantity’ approach with more apps at high price points, reflecting its enterprise credentials, but between the two big names, there is no significant variation in strategy. Prices are currently similar in the Apple App Store and Google Android Market, according to research by Distimo. It finds the only area of real difference is in the ‘reference’ category, where Android is more expensive because its market carries a wide range of dictionary-type apps for $15 to $30. Otherwise, top selling premium downloads in categories including entertainment, navigation and tools are about the same average price across both the stores, though there is a different pricing structure in games. In this category, the most popular Android games typically cost between 99 cents and $5.95, with most selling for $2.99, while most App Store titles sell for 99 cents, with a few offered between $6.99 and $9.99. Games are the best selling group in App Store.