Apple's Couch-Potato Conundrum

Apple ( AAPL) is taking a tentative step into customers' living rooms. But will customers follow?

The company's unveiling on Wednesday of a collection of products and services seems more geared to the consumer lying on a couch than the one sitting at a desk. The new offerings include a video-playing iPod, a remote control, a software program that allows users to flip easily at a distance between movies and music stored on their computer -- and the ultimate couch-potato pleaser, episodes of popular TV shows.

But this isn't yet a full digital-age entertainment system. And for all the excitement about being able to watch Desperate Housewives on a computer or an iPod, some analysts wonder how many users really want to do that.

"This is a step in the right direction, but it seems like a very restrained step, a cautious step, and Apple could certainly have done more sooner in terms of creating a home convergence product," says Tim Deal, an analyst with Technology Business Research.

In his presentation Wednesday, Apple CEO Steve Jobs acknowledged that this is only the beginning. Commenting on a deal with Disney ( DIS) to offer episodes of five Disney television shows for sale on its iTunes music service, Jobs called the deal a "first step."

Still, investors seem bullish on the potential. The announcement stopped Apple's post-earnings slide on Wednesday. And on Thursday, the company's stock traded up some 9%.

With the PC industry maturing, a chief ambition of the technology industry in recent years has been to broaden the demand for computer chips, hard drives and software beyond ordinary computers. A large part of that effort has been to incorporate PC technology into entertainment devices.

"That's a big market, because everyone has a living room," says IDC analyst Richard Shim.

And the market for the digital living room is wide open right now, analysts say, so Apple has plenty of time to improve its offerings and establish itself in the market. And the company has distinct advantages over the competition: Not only are its devices known for their ease of use, but Apple has important connections -- and leverage -- with Hollywood, thanks to the success of iTunes and of Jobs' Pixar ( PIXR).

But the competition is certain to be intense. Vying for couch potatoes' attention are a wide range of competitors, from cable and telephone giants such as SBC ( SBC) to PC heavyweights such as Microsoft ( MSFT) and Hewlett-Packard ( HPQ) to consumer electronics leaders such as Sony ( SNE) to upstart device makers such as TiVo ( TIVO) and Netgear ( NTGR). In the meantime, the market is still sorting itself out; everyone may have a living room, but it's not clear that everyone wants a computer in it.

In some ways, the tech industry's living-room effort has been a success, as sales of digital televisions and digital video recorders have soared. But other aspects of the strategy have seen a tepid response. PC makers, for instance, have seen limited demand for computers running Microsoft's Media Center PC software, which represents one of the most overt stabs at trying to find space in the living room.

Until Apple's announcement Wednesday, it had few living room offerings, including nothing comparable to a Media Center PC, and it was decidedly absent from the race to deliver digital video to couch spuds.

Apple is getting into that race now. The company revamped its all-in-one iMac desktop computers, which will now include a remote control to let users easily listen to, watch or switch between music, digital videos and DVDs. Added to that, the company is now selling music videos and movies through its iTunes music store.

The new offerings could signal an eventual Apple-flavored entertainment center for the digital age. But for now, they're a limited first step.

Apple's new remote, for instance, doesn't work with any of its computers other than the iMac. The "Front Row" software that works with it and switches between media applications also is available only for the iMac and not for the company's other computers.

Meanwhile, unlike the Media Center PC concept, there's no direct way to watch or record live television shows on the iMac. And the video that Apple is offering from iTunes, while perfect for those new video-playing iPods, is significantly lower in resolution than even regular television signals, meaning that it would appear fuzzy or pixilated when blown up to fit a full iMac screen.

"Do I put the new iMac in my living room? No, there's no TV tuner. Do I put this in my home office? No, because it doesn't quite fit there either," says Shim. "It seems Apple may have jumped the gun with this device."

But these offerings could be even more significant for what it represents outside of Apple. Hollywood has been reluctant to distribute its movies digitally for fear of piracy. And the paucity of video offerings has hobbled the existing online movie market. Apple's effort is a "proof of concept," says Roger Kay, an industry analyst with Endpoint Technologies. The company is trying to convince Hollywood that there's a market for online video distribution that will address the industry's security concerns, while trying to convince consumers that there's enough video out there -- and accessible enough -- to be worth their while.

The low resolution of the iTunes videos and the limited number of shows available so far are part of an effort to address concerns on both sides, Kay says.

"Right now, it's a compromise," he says.

That compromise might be acceptable to some people, but Apple has plenty of competitors who could offer something better. Who needs to pay $2 for a 10-minute download of a low resolution version of Lost when you can just key up your DVR (or even a humble VCR) to record it for free at a higher resolution? And why buy a low-resolution episode of Desperate Housewives from last season when you can get the whole series plus extras in full resolution on DVD?

"That's the competition for this," says Kay. "In that sense, the risk is that the experience is little bit disappointing on the resolution side of things."

Apple's advantage, Kay and others note, is that its videos are pre-formatted for their new iPods; consumers won't have to manipulate the video to downsize it for a portable device. But the key market for digital video is the home, not kids in the back of a minivan or jet-setters looking for something to do on a cross-country commute.

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