Apple's Problem in One Word

NEW YORK (TheStreet) -- Phablets. Apple's (AAPL) problem is that it failed to perceive the threat phablets -- small tablets that double as phones -- would create for it.

Samsung launched its Galaxy Note phablet in 2011, two years after the introduction of the first iPad. The phablet was designed to undercut both the iPhone and iPad by giving low-income consumers, especially in Asia, one inexpensive device that did both jobs.

This doesn't just appeal to Beijing hipsters. One of my dearest friends, a 68-year old Vietnam War veteran, recently chose a Note phablet over the iPhone. His eyes desired the bigger screen, and his wallet demanded he get one device, not two.

Apple, which maintained premium pricing on its iPod line for a decade, did nothing against the threat to its iPad dominance for over a year.

The response, when it came, was the iPad Mini. The problem with the Mini was that it did not address the real challenge of the Note, namely price.

As any market matures, pricing theory holds that the wise supplier moves from "premium pricing" to "value pricing," sacrificing margin in order to maintain market share. Apple did not do this with the Mini. Samsung did this with the Note.

Amazon.Com ( AMZN) also did this with the Kindle, which is less a tablet and more an Amazon-only device -- the browser is deliberately terrible. But when you can get the price below $200, as Amazon has, you can move a lot of boxes.

The result of failing to address the low end of the market, combined with rivals' decisions to go after it aggressively, can be seen in the market share data.

As TrendForce reported, the saturation of the phablet market and the high price of the iPad Mini pushed Apple's second-quarter share of the total tablet market down to 35.5%, against 21.5% for Samsung, with a host of other Android names taking up what remained.

This was a huge win for Google ( GOOG) Android operating system, which powers nearly all the market's small fry, as well as Samsung. Google is now trying to consolidate its advantage with the LG-made Nexus 7, which reviewers at C|Net compare very favorably with the Mini, along with the Moto X phone, produced by its Motorola division and backed by a $500 million ad campaign dwarfing anything Apple has ever done.

Usually, at this time of the year, we in the media are all breathlessly awaiting the next Apple press conference, speculating about what great new stuff the company is about to offer us. Instead, we're now watching to see which Apple executives walk the plank, and speculating about Google.

The "cool" end of the market, the premium end, always responds in time to what is happening at the low or "value" end of the market. Just as Toyota made the Lexus possible, just as Chevrolet made Cadillac possible, so mass market success breeds class market profit.

This is Business 101. Tim Cook's Apple, in its arrogance, ignored the lesson of history and is paying the price, in the stores, on the streets, and especially on Wall Street.

At the time of publication the author was long AAPL and GOOG.

This article was written by an independent contributor, separate from TheStreet's regular news coverage.

Dana Blankenhorn has been a business journalist since 1978, and a tech reporter since 1982. His specialty has been getting to the future ahead of the crowd, then leaving before success arrived. That meant covering the Internet in 1985, e-commerce in 1994, the Internet of Things in 2005, open source in 2005 and, since 2010, renewable energy. He has written for every medium from newspapers and magazines to Web sites, from books to blogs. He still seeks tomorrow from his Craftsman home in Atlanta.

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