Apple: Too artsy for its own good

(MoneyWatch) Apple (AAPL) stock has taken a beating, dropping more than 12 percent since its earnings announcement on Wednesday disappointed investors. There were a number of problems, including lower-than-expected iPhone unit sales lower, iPad cannibalization by the cheaper mini model and a big drop in Mac sales.

Some of this is due to competition, some to economic conditions, some to the changing nature of how people use computers, and some to the differing requirements of countries like China, where Apple is trying to expand. But there is a secondary thread of problems for the company: An insistence on a standard of physical design and function that outstrips the ability of Apple and its contract manufacturing firms to deliver products that consumers can actually purchase, constraining revenue and profit.

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Apple has built its reputation on consumer perception of innovation, market-leading design, and the quality of the company's product. As CEO Tim Cook said during the earnings call (transcript via SeekingAlpha.com):

At Apple, we think about the smallest details and we are unwilling to cut corners in delivering the best customer experience in the world. This relentless commitment to innovation and excellence is the reason our customers choose to buy our product and this will always be the driving force behind Apple.

And yet, in the area of personal computers, the commitment to design didn't seem to help on the surface.

Mac woes

Apple sold 4.06 million Macs -- no telling the breakout between laptops and desktop models because the company has stopped indicating the numbers separately as it has historically done. That was 22 percent down from the year before and 18 percent down from the previous quarter. The latter number is even more significant because this most recently reported quarter spanned the holiday season, which should have seen strong sales.

Some might argue that the year-over-year comparison isn't as bad as it seems because the fourth calendar quarter of 2012 had 13 weeks, whereas the previous year had 14. However, even assuming that sales were even during the month and that an extra week would add an additional amount, the increase would be only 7.7 percent, so the drop would still be more than 14 percent. This is at a time when a market analyst firm estimates that global PC sales declined by 6 percent in the same quarter, meaning that Apple badly lagged the rest of the PC industry.

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High wire design

As Evan Niu points out on The Motley Fool, pushing the design envelope took its toll on Apple's ability to fulfill potential demand. The drive to bring a consumer electronics aesthetics and manufacturing techniques to the desktop constrained supply, as making the units, especially the popular 27-inch screen models, was clearly difficult:

In October, Cook warned that iMacs would be "significantly constrained" throughout the quarter, particularly with the 27-inch model. Those constraints are primarily what decimated total Mac units this quarter, with iMac units falling 700,000. In addition to that, Cook said that channel inventory was down from the beginning of the quarter by over 100,000 units.

Without these constraints, Cook would have expected Mac sales to be "materially higher."

Apple fell short on Mac sales -- meaning a year-over-year revenue drop of nearly $1.1 billion -- because it could not sufficiently surmount the challenges of making the design it wanted.

Not just a Mac problem

Other products had manufacturing issues as well. The iPhone 5 saw units scratched out of the box because of the difficulty in working with soft aluminum, rather than steel. The difficulties in manufacturing sent an executive from Foxconn, the contract manufacturer that makes many of Apple's products, to the Wall Street Journal to explain the problems and a resulting supply shortage:

"The iPhone 5 is the most difficult device that Foxconn has ever assembled. To make it light and thin, the design is very complicated," said an official at the company who declined to be named. "It takes time to learn how to make this new device. Practice makes perfect. Our productivity has been improving day by day."

Apple could have sold more iPhones had there been no production problems. Every 100,000 additional sales would have meant another $64.1 million in revenue.

The iPad mini became a force in Apple's tablet sales, with a lower price dropping the average revenue by $70 per unit from the previous quarter. Again, there were reported manufacturing problems for the mini, which used the same type of aluminum case that caused issues for the iPhone 5 and that reportedly reduced manufacturing yields and, therefore, availability. This should not be surprising as the iPad 2 also had production issues.

Design aesthetics may have historically helped Apple gain consumer attention and market share in the past. But the drive has become a limitation. Until the company and its partners can learn to improve manufacturing technologies at the same pace as design refinements, the company's artistic sensibilities will continue to stymie it financial results.

Images: Apple Inc