Needham: Of 13 types of network effects, Apple has most

Analyst Laura Martin has looked at the FAANG from all sides now.

From a deep (44-page) dive that landed on my desktop Thursday:

First, a definition:

At the simplest level, a Network Effect occurs when “each new user of a good or service adds value to some or all other users”. Academics often label Direct Network Effects “Network Externalities” or “Same-Side Network Effects”. Said another way, a Network Effects exist when the value of a product depends not only on its attributes but also on the number of consumers who purchase the same product…

  • Not all Network Effects are equally strong. Each FAANG has some form of Network Effect, but some types are more powerful as moats/barriers to entry than others.
  • Network Effects do not persist indefinitely. To remain an effective moat, Network Effects must be buttressed and supplemented over time.
  • Internet markets tend to have winner-take-most outcomes, in part because the best programmers desert the sinking ship, which creates a negative feedback loop.

Then, the 13 types, ranked by strength:

aaple 13 network types

Click to enlarge.

For those keeping count, here are the 13 flavors, in the order of decreasing strength:

  1. Physical
  2. Protocol
  3. Personal utility
  4. Personal
  5. Market network
  6. Marketplace (pro and con)
  7. Platform (pro and con)
  8. Asymptotic marketplace
  9. Data
  10. Tech performance
  11. Bandwagon
  12. Language
  13. Scale

Finally, a chart comparing the FAANG by the elements of their business strategies:

Martin’s investment conclusion:

Based on the strength of its Network Effects, its strong culture of monetizing its Network Effects, and its strong Balance Sheet, we conclude that AAPL is best positioned to outperform FAANG competitors in a battle between these ecosystem giants.

My take: Does it bother you that the 14 criteria in the second chart don’t match the 13 in the first? It bothers me. Either way, Martin figures Apple is tops. A FAANG with fangs, she calls it.

There’s more to this report that I can fairly borrow. Readers who subscribe to Ben Thompson’s Stratechery will recognize many of these concepts. If you want to dig deeper, Needham offers pointers to work by the CEO of Bell Telephone (1908), Robert Metcalfe (1980), and Feng Zhu and Marco Iansiti in “Why Some Platforms Thrive… and Others Don’t.” (Harvard Business Review, Jan-Feb 2019).

See also: Needham issues ‘strong buy’ on Apple

5 Comments

  1. Robert Paul Leitao said:

    This is all a fancy way of saying Apple is a customer relationship continuum with platforms that engage the company’s customers at just about all levels. It’s good to see analysis that is not focused on how many iPhones are sold each quarter and at what ASP. That’s because with over 1 billion devices in use the company can deliver services at rich margin with strong uptake from the start. Add to the quantitative analysis an understanding that services revenue offers higher margin than hardware, the company’s products and services have high customer appeal and very high customer satisfaction levels.

    Apple’s services announcements on Monday may be similar to the release of iTunes for Windows in 2003. The huge difference is services will ride atop a platform of the company’s own making and will prompt upgrades and new entrants to the company’s massive eco-system.

    Apple remains in an equity class all its own.

    2
    March 21, 2019
  2. Fred Stein said:

    One point deserves a click through: “Network Effects do not persist indefinitely. To remain an effective moat, Network Effects must be buttressed and supplemented over time.”

    Many analysts and pundits dismiss Apple’s incremental improvements. Increments, which makes Apple’s moat deeper and wider. All those hardware improvements in image processing, sensors, AI, and now wireless together with SDKs means that iOS devices will become more essential driving hardware upgrades and potential massive new services.

    When Tim Cook says Apple will be remember for their contributions to health, do any analysts consider that 1% of $6,000,000,000,000 is a large number?

    1
    March 21, 2019
  3. John Butt said:

    Apple has an existing social network, often ignored. My wider family have all got iPhones and FaceTime is our preferred interaction method, ie our social network

    Network effects were first discovered in the telephone space decades ago, I studied it at length in the 80’s as head of pricing for NZs telco. FaceTime is simply a videophone which works internationally and seamlessly, in my case even ringing like one

    0
    March 21, 2019

Leave a Reply