Apple prepares to reset the bar in the mobile app market

Apple's plan to allow developers to add in-app payments to applications sold through its iPhone App Store could be the next game-changing step the company takes as it charges ahead in the mobile market.

Apple announced the new feature at the iPhone OS 3.0 preview event in March. And next week at the Worldwide Developers Conference in San Francisco the company is expected to announce the release dates for the software upgrade.

While in-app commerce is only one of several new enhancements to Apple's iPhone operating system, it may be the most significant. The reason is very simple. By allowing transactions to be completed within applications, Apple is changing the economics of the mobile application market and providing developers more opportunity to make money from their applications.

And if executed well, Apple could leave its smartphone competitors in the dust.

"My sense is that this will lead to Apple increasing their lead in the market even more," said Bart Decrem, CEO of Tapulous, a small developer that creates applications and games exclusively for the iPhone. "It will be a tremendous challenge for Apple's competitors that are trying to build their own application stores to get traction with developers, because we're in no rush to work on other platforms."

There's no question that the App Store has been a huge success. Apple announced its billionth application download only nine months after the store launched. But for developers the financial rewards have been mixed. There have been some paid applications that have sold well and generated hundreds of thousands of dollars in revenue, but most developers have barely broken even.

Today most of the applications downloaded from the App Store are free. And of the ones that are actually sold, the majority sell for 99 cents a pop.

"The challenge is that it's hard to sell stuff for more than a dollar," Decrem said. "And it's really hard to make a lot of money that way, especially when the majority of the downloads from the App Store are offered for free."

The ability to add in-app purchasing should provide a greater opportunity for developers to generate some cash. As a result, developers may be likely to spend more time, money, and effort developing applications for the iPhone rather than other smartphones, such as the Android devices or Windows Mobile devices.

Electronic Arts, one of the biggest game publishers in the world, also sees big opportunities as result of the in-app commerce function. EA sells many of its games for the iPhone at premium prices around $9.99 and higher. And Adam Sussman, vice president of worldwide publishing for the game developer, said the company is already making plenty of money from the App Store. But the new in-app commerce capability could allow the company to lower the entry price of a game to expand its audience by allowing it to monetize more elements of the game.

For example, in the game Command & Conquer, EA could sell additional maps to play the game for 99 cents. Or it could offer character enhancements in role-playing games or a more sophisticated weapon to help players advance more quickly to the next level of the game. Another possibility is offering digital goods. For example, within the Sims game, players could pay 99 cents or more for clothing or other items to decorate their virtual home.

"Our belief is that the paid apps in the App Store will move away from a single download model," said Adam Sussman, vice president of worldwide publishing for EA. "The new model will involve these micro-transactions that can broaden the installed base of users and can extend the life of a particular game or application."

Software sells
One lesson that has been very clear as a result of the runaway success of the App Store is that software and applications matter just as much as sleek design and cool hardware.

Apple's smartphone competitors appear to have caught onto this lesson as evidenced by the copycat application storefronts from companies, such as Research In Motion, Nokia, Google, and Microsoft.

Apple was not the first company to offer downloadable applications for cell phones. But it was the first company to make discovering, downloading, and paying for applications easy for consumers. These were things that previous "storefronts" from mobile carriers or other third-party sources of applications were lacking.

As a result, the market for mobile applications never fully lived up to developers' expectations.

"Discoverability has always been really tough on traditional cell phones," Sussman said. "It hasn't been consumer friendly."

Apple has changed this. The App Store uses a well-established ecommerce platform, iTunes, to bill customers, which has helped make downloading and paying for applications as easy as purchasing and downloading a song. By contrast, Apple's competitors have had to build their own mechanism for discovering and paying for new applications from scratch. And as a result, virtual storefronts, such as Google's Android marketplace, have been slow to get off the ground.

"With the Android market, I think we are still waiting for the market to arrive," Sussman said. "While the platform has been released, there isn't a lot of momentum yet."

Newer smartphones, such as the one Palm is developing for the Pre, don't even have a real marketplace established yet. The Pre, which goes on sale on Sprint Nextel's network on Saturday, will launch with only about a dozen applications. Sprint CEO Dan Hesse said this is to be expected considering that the phone is just now launching. And he said he expects developers to ramp up work on new applications after the launch.

But given the established customer base of the iPhone, the fact that Apple will likely introduce new products into the iPhone family, and the added opportunities to make more money through the in-app commerce capability, it may be difficult to convince developers to spend resources on the platforms such as the Pre.

"We've told our investors that we are open to developing applications for other smartphones," Tapulous CEO Decrem said. "But right now I don't see any reason to move beyond developing for the App Store. In fact, I see us increasingly putting all our eggs in the App Store basket."