2017 had some huge changes in the world of tech. In this year-end episode of Industry Focus: Technology, analyst Dylan Lewis and contributor Evan Niu examine the biggest stories and tech advances from this year.
Listen in to find out what new technologies Apple (NASDAQ: AAPL) is pushing forward with its iPhone X; how augmented reality is becoming a reality, and where the technology could branch into from here; where virtual reality sits right now, and which companies are investing most heavily in it; the current state of net neutrality, what changes consumers might expect in the next few years because of it, and how the regulations could change; and more.
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A full transcript follows the video.
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This video was recorded on Dec. 22, 2017.
Dylan Lewis: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market every day. It's Friday, December 22nd, and we're looking back at the year in tech, I'm your host, Dylan Lewis, and I'm going on Skype by fool.com senior tech specialist, Evan Niu. Evan, this is the last IF show before the Christmas holiday. What are you doing with the family over the weekend?
Evan Niu: I'm actually flying to Texas to spend a couple weeks with family there. I won't be working next week, by the way. I'm taking some time off.
Lewis: [laughs] I appreciate the heads up. You're going to be online a little bit, during that period, I assume?
Niu: Yeah, I'll be around a little bit. But I'm not going to do a whole lot. I need some time off every now and again.
Lewis: We have contractors all over the world, and that's one of the luxuries of being remote, you can be anywhere. I'm going to be taking advantage of that myself, going home to New Jersey, going to celebrate the holidays with my mom there and then hang out with my dad in Delaware for a little bit, do a little work. That should be nice. Producer Austin Morgan, what's the plan for you over Christmas? You kind of get a whole break, because we've pretaped all of next week's episodes.
Austin Morgan: Yeah, I will not be here next week. That'll be nice. But, I'll still be in this area. We usually do breakfast and dinner at somebody's house. This year, we're going to a bottomless mimosa brunch and then having a party. So, that'll be fun, I guess.
Lewis: It sounds like there aren't any kids in the family.
Morgan: Not anymore. My brother just turned 21 this year, so it sounds like things are changing.
Lewis: That sounds like a pretty good time. That's a fun Christmas tradition. I'm going to be curious to see --
Morgan: I can get behind it.
Lewis: -- if that happens next year.
Morgan: That'll be the real question.
Lewis: It's not whether you do that one year, it's if you decide to do it again.
Morgan: And how everybody feels on the 26th.
Lewis: [laughs] Yeah. Thankfully, the Christmas holiday is a nice time to relax and just hang out with your family. We are wrapping up the year in 2017. This is the last recap show for Industry Focus, and it's the last real traditional show we're going to be doing this year. Next week, we have a fun little treat for you guys. A little bit more on that later on in the show. Evan, looking at tech in 2017, I think one of the big things, particularly from you and me as two fairly big Apple fans was the release of the iPhone X. This was one of the biggest stories of the year, and it's something that we spent a decent amount of time talking about, but I think it's something that's worth revisiting just because of what it might say about the future of AR.
Niu: Definitely huge interest. Google put out their top search results for the year recently, and iPhone 8 was the No. 1, but of course, that was before the names were official and everyone was casually referring to the next iPhone as iPhone 8 before we knew what it was going to be called. Of course, iPhone X gets a lot of search volume after they announced it. But, combined, I definitely think it was one of the most highly anticipated products this year, particularly being the 10th anniversary edition, since they released the first iPhone in 2007. So, it's a big milestone, to make it 10 years and ship over a billion devices.
Lewis: And they had some features in there that were pretty interesting. You look at the "edge-to-edge screen" -- I'm going to put that in quotes, given some of the hoopla about the tab--
Niu: The notch.
Lewis: The notch, yes, on the iPhone X, and how it is not truly edge-to-edge. There were obviously a lot of headlines about its pretty high price tag as well. But, I think when I look at this device and its launch, the thing that has me really excited and interested in where this puts consumer electronics and software going forward is the A11 bionic chip and that loaded front facing camera that they put into this phone.
Niu: The notch.
Lewis: Yeah, the notch.
Niu: All just stuff in the notch. The TrueDepth camera system. Yeah, it's pretty exciting stuff that they're putting in. They mentioned it's one of the most densely packed areas they've put into any product in terms of the amount of technology they're putting in there. So, lots of stuff going on there.
Lewis: Yeah. I think there are, what, six different components in there right now? You've got an infrared camera, flood illuminator, the dot projector -- which is insane, if you haven't seen a visual of what that actually looks like, the things that you can't see happening in front of you. There's a lot going on there. And all of these components, all of these hardware upgrades, will really set the stage for face ID and 3D sensing for Apple and consumers moving forward.
Niu: I think there's a lot of potential in this going forward. What they called the dot projector is what's called a vertical cavity surface emitting laser, or VCSEL. I think we talked about this before on the show. VCSEL's have been around for a decade, so the technology itself is not new. But they've traditionally been used in a bunch of different applications, including laser mice, which have been around forever, and lots of these little things. But no one has ever really thought about putting them, to this extent and this volume, for these types of 3D sensing applications. So, I think it's really exciting. The VCSEL industry, it's been around for a long time, but it's still not huge in terms of the volumes that it can pump out. That's why Apple is really betting a lot in it. They announced a deal earlier this month to award one of their suppliers with this $390 million to basically help them ramp their capacity, because Apple said that in the fourth quarter of this year in 2017, the current quarter, they're going to be buying 10 times as many VCSELs as the entire worldwide capacity could supply a year ago. So, they obviously have humongous ambition. And that's only just for the iPhone X. So, if the iPhone X alone is already basically 10 times the industry's worldwide capacity, and if you think about their future ambitions -- because certainly, once Apple comes out with something, they try to bring it to the rest of their lineup. Next year, they might try to bring it to the iPad Pro. You can easily see them maybe trying to put them into Macs eventually, with face ID, there's some interesting applications there. So, this is just the beginning, very much so. They're going to need a ton of VCSELs going forward. And they're starting to really help suppliers put that capacity in the place, which I think is a really smart move from a supply chain perspective.
Lewis: And the reason I think this is such an interesting story and such a notable product release is, we've been hearing a lot about augmented reality for quite some time. And when you see a maker of one of the most adopted pieces of hardware deciding to put all these components and all this functionality into the hands of anyone who upgrades to their latest phone, that kind of sets the stage for some pretty amazing opportunities in AR. We talked about how face ID is kind of the immediate benefit to this, but I think you look at something like face ID, you look at something like even the filters on Snap's (NYSE: SNAP) app, where you have people making crazy faces and having the software respond to it, that's very early, very primitive AR. And it familiarizes people with what it's capable of, but it's certainly not the last application of that. I think more and more, we're going to see augmented reality become really useful, frankly, for people, not only just entertaining.
Niu: Right, exactly. I definitely agree. I think that's going to be the really big piece of this, and that's what Tim Cook is so excited about it. He's talked about AR for years, and only this year have they officially announced ARkit in iOS 11 to really provide these tools for developers. And yeah, it starts off with these photo and video filters that are kind of fun, but not everyone uses them. But if you start to actually talk about practical applications, there's already tons of really interesting things out there. It sounds kind of boring, but it's really kind of cool if you play with them, some of these measurement apps that use augmented reality on your phone that are out there now, you have apps that you can measure the dimensions of a roof, just point your phone at the corners of your room and you can make real-time measurements in real life, levels, all sorts of little things. Those are some examples. But, I think they're really is incredible potential for AR, when you start thinking about more practical mainstream applications.
Lewis: The way I like to think about AR is, if you can take the filter you're currently looking through the world in and video gamify it, and have vectors or different meters or things like that. That's kind of the potential that this technology has. I kind of envision something where, you have a real time, updating in front of you, instruction manual if you're trying to do some sort of really simple repair on your car, simply by holding your phone over the hood as it's up, and having a better sense of what you're looking at. I think, in addition to those room measurement type things you're talking about, there are just a lot of really compelling use cases. We're obviously in a very early innings of that. But, getting people more familiar with the technology, and also just getting it in their hands, is a big step forward.
Niu: Right. I kind of agree with Tim Cook in the sense that I think AR has more potential than VR for these mainstream types of applications, because VR is certainly intricately linked to AR. Virtual reality. Right now, it's very focused on gaming. Of course, gaming is a huge market, but it's still a niche, not a mainstream thing. Whereas AR really has much more potential to affect the average consumer's lives, where they can deliver this actionable information in a seamless way on top of what you're already doing, versus VR. Tim Cook's whole argument is that VR is kind of isolating, whereas Facebook (NASDAQ: FB) wants to make VR the social experience where everyone's in the same virtual world. These are all kind of visions of how things will play out in the years ahead. It's certainly too early to say which way it's going to go. But they do have different visions of this technology.
Lewis: Speaking of AR and VR, we just talked about how smartphones prime people for this a little bit. But that category isn't necessarily what's going to be the big driver of virtual and augmented reality headsets, at least going forward, according to some data and projections from IDC, a research firm in the space. They just take a scan of the current marketplace and they say, screenless viewers. These are basically all these headsets that run thanks to smartphone tech. That segment currently makes up about 60% of the AR/VR headset market. You can basically think of that as the Samsung Gear VR, where you pop your phone in and that's what you're using as the main tech powering your experience.
Niu: It's just when you strap a phone to your face. That's the way I like to refer to it. [laughs] And it's a huge part of the market, because those things are pretty cheap. Everybody basically has a phone nowadays, and these accessories cost maybe $50-100, so it's very cheap to buy one of these things. Basically, all it does is it straps your phone to your face, which I think is a little silly. I've tried a couple of these applications, I'm not really sold. It's not a great, super compelling experience. But, it's really cheap, and it's experimental, lets you test drive it and get a taste of it. I think that's kind of the phase that the market is in. So, it makes perfect sense but that's currently dominating shipments, because they're cheap and anyone can try it.
Lewis: Yeah. Right now, I think we're in the minimum viable product that gets the technology into the most people's hands phase of things. What's interesting is, maybe IDC sees things kind of the same way that you do, Evan. They look at the current market, and it was just under 10 million shipments in 2017. That's expected to grow to just over 59 million by 2021, which is a CAGR of 59%, by the way, which is insane. And they expect most of the growth to come from these more involved, stand-alone and tethered head-mounted displays. These screenless viewers that do not use their smartphones, but instead are running off of a gaming platform or a computer and frankly are just a lot more expensive.
Niu: Right. There's a big milestone for this market. In the third quarter, there were a million headsets shipped. That was the first time the market has ever cumulatively shipped more than a million units in a quarter. And that was led by Sony's (NYSE: SNE) PlayStation VR, which is kind of the same thing. A lot of people have PlayStation 4s that will do most of the heavy lifting on the technical side, so you just buy this other accessory that's a couple hundred dollars, and you can have a pretty good experience. So, they're currently the market leader in terms of unit volume. And Facebook is second with its Oculus subsidiary. Oculus ties into a PC, so if you don't have a PC that can handle this stuff, you have to go out and buy one, and that can be $700-1,000. So, if you don't have any type of equipment and you want to buy the Oculus set, with a PC, it can easily be $1,000-1,500, which, not everyone is going to put that kind of money down for a technology that they're not too familiar with, and there may not be a whole lot of great content for. But, it's definitely getting started. I think a big part of it this year has been price cuts. These companies have been really being aggressive with reducing prices over time. Of course, the natural effective that is to sell more.
Lewis: Looking at the investing angle here, Evan, we named dropped a couple companies in that discussion, with Sony and looking at Oculus' parent Facebook, I don't see VR as something that's going to really meaningfully move the needle for them anytime soon, at least.
Niu: Yeah, I think this is definitely one of those long-term vision things. Mark Zuckerberg has talked about this. It sounds like it's out of a Sci-Fi movie. You imagine this future where, if you need to go to a doctor, you go in VR. And I don't know how they would diagnose you through VR, but that's just one example. Or, you can meet with a friend on the other side of the world in a VR space and interact with them there. It's actually kind of like that movie coming out, Ready Player One, where everyone enters this virtual world, and of course it's a super Sci-Fi movie coming out soon, but that's kind of the vision that Mark Zuckerberg is describing. And I don't know if or how long that might take, or when people will be ready for it, but it's certainly a possibility.
Lewis: That's a side of VR that I think starts to scare people a little bit, where it sounds overly tech-reliant and a little dystopian in some ways, maybe a little disconnected, which, to your point earlier about maybe AR being the bigger market, I'm kind of hoping that's the case. It's a little bit more of a collaborative, social experience. If there is a company in this space that maybe benefits from some of the tailwinds with VR, and even then, this is being qualified a little bit, maybe it's HTC?
Niu: HTC is No. 3 in the VR market right now, with their Vive headset. But HTC, they've had so many troubles over the years. They are making some progress with VR, but I wouldn't be too interested in HTC overall as an investment, just because, they've had a lot of trouble over the years. They hit it big a long time ago in smartphones, but they've kind of fallen by the wayside in the smartphone market, so they're trying to bet big on VR. But it's such a young, nascent market. I do like Facebook. I personally own Facebook. They're betting pretty big on Oculus. I do think they have some potential here. Sony, VR, gaming in general is such a tiny part of Sony's business that even if VR takes off, it's hard seeing it making a big dent in Sony's financials. Whereas Facebook eventually maybe could.
Lewis: Evan, one of the other big stories, and this is one that just recently dropped, it was kind of fun to have to prepare for it because the story changed so much even after the major news broke, it's something we haven't covered that much, but, net neutrality. This is something that became impossible for us to ignore after the FCC voted to repeal net neutrality rules earlier this month, which removed regulations from the Obama Administration. And maybe it's worth us doing a quick refresher for those that haven't been following the story on exactly what net neutrality is.
Niu: Oh, yeah, it's a big topic, and everyone's been very mad about this.
Lewis: It's this idea that the Internet is an open space, and data should generally be treated the same. Companies that provide access to the internet shouldn't be able to discriminate or charge different users, sites, platforms, etc. differently. It's kind of democratized and open look at the internet. Which is a lot to unpack, and we're going to try to do it in a couple minutes here. I think part of the trouble, like I mentioned before, with the net neutrality issue, is that it's constantly changing. You had the FCC vote down these measures and basically move away from the regulations that were in place. Then, days after that repeal, Republican congresswoman Marsha Blackburn from Tennessee proposed a new law that would preserve some elements of the core net neutrality principles, from the bill text, "it would prohibit blocking of lawful content, applications, services and non-harmful devices, also prohibit impairment or degradation of lawful internet traffic." So, that is to say, it would prevent blocking and throttling, and maybe we can explain that in a minute, but it would fall short of the original rules of net neutrality by not prohibiting internet service providers from charging websites or online services for prioritization. It also prevents states from imposing their own net neutrality-like rules. So, I hit on the three big tenants of net neutrality there -- blocking, throttling and prioritization. Do you want to run through those quickly, Evan?
Niu: On the prioritization piece, I will say, prioritization has actually been part of the internet for a really long time. It's weird, because back in 2014, Netflix (NASDAQ: NFLX) rose a big stink, because they were paying these interconnection fees to internet service providers. And these got characterized as "internet fast lanes." It's really kind of a mischaracterization. Again, these have been there forever. It's just a way -- there are fees associated with a company's network, and these fees aren't actually a lot of money. It's a very small amount of money. It's tens of millions of dollars, which sounds like a lot in absolute terms, but relative to these companies' business is, it's a rounding error. It just ensures good access to these networks to have a good performance. But a few years back, when Netflix started making this public complaint about it, it got Congress's attention, it got the public's attention, and they said, there's this prioritization and it's unfair. And there is some truth to that, because a start-up can't really afford these types of fees, so they might not be able to compete with a company like Netflix in terms of delivering, making sure the content gets to you and have good performance. But, the prioritization piece, I don't think it's as bad as people thought. And at the risk of sounding like a devil's advocate, overall, I think all the outrage is a little bit overhyped, because the broader context is that these rules were only put into place in 2015, when they classified ISPs as common carriers under Title II of the Communications Act of 1934. In other words, the vast majority of the internet's history has been without these rules, and it's been just fine. That being said, I do think net neutrality is important, and those rules were good because it basically prevents these companies from abusing their power, their market power, which there definitely now is the potential for. But, for most of the history, these companies have been kept in check by market forces. So, I don't think the worst-case scenario that everyone thinks, it's not like tomorrow Comcast (NASDAQ: CMCSA) is going to charge an extra $3 to view a tweet, which is kind of like some of these extreme things that you're seeing on the internet right now, like "What's going to happen now that net neutrality is dead?" Well, it just goes back to the way it used to be, which is the way it's been for most of the internet's history.
Lewis: Critics of the FCC's decision would say, there aren't a lot of players on the internet service provider space, so removing regulation could lead to some very anti-consumer outcomes. I will also add that, that space is not exactly known for treating customers all that well to begin with, so thinking that they will continue to be benevolent when they have a lot of regulations pulled off of them might be a little bit idealistic, in my view. Looking at the current state of things, excluding the law that may be on the books to slightly amend the rules, and just looking at the FCC's repeal of these rules, I think the winners have to be the internet service providers, with net neutrality rules coming down. They have less regulation to deal with. Theoretically, it gives them room to block, throttle, prioritize traffic. So, basically, exert preference is over how easy it is to access certain types of content. I don't think they're actually going to do that, and a lot of these providers, AT&T (NYSE: T), Verizon (NYSE: VZ), have also come out and said, we are believers in a free and open internet. That's what they're saying now, there's a possibility that they change their tune down the road when they see how they can make more money by doing that kind of stuff. But I doubt that anything would happen anytime soon, certainly anything dramatic, if they were to ultimately decide to do anything like that.
Niu: Right. Certainly, this is an oligopoly, so there's not a lot of companies that are in this space, just because the barriers to entry are literally tens of billions of dollars in these networks. So, the fact that there's not a lot of competition is probably my main concern, because they do have, particularly with these repeals, they have much more potential ability to abuse their power. And historically, they haven't really used it, and they're saying they won't use it now. I certainly think it's a good thing to make sure they can't, which is why I think the rules were good while they were in place. But, it's going to just be up to them to see how they use this power. I don't expect them to do these terrible things immediately, but they do have the opportunity to do so. So, we just kind of have to hope that they don't just start gouging people.
Lewis: Yeah. Even to say that the FCC's repeal will definitely stay in place is kind of in question. There's so much in flux here, because Senate minority leader Democratic Chuck Schumer said there will be a vote on a bill that would overturn the FCC's decision and reinstate net neutrality rules. There are also State Attorney General's currently planning to sue the FCC to have the original rules reinstated. So, this is kind of a tough story to really predict winners and losers, or really what's going to be happening in the marketplace, just because it's so uncertain as to what the terms are going to be that these companies can operate on, let alone, will they choose to take advantage of them.
Lewis: Speaking of telecoms, one of the other big news items from 2017, we saw Verizon scoop up Yahoo in June for $4.5 billion, and in a weird way, that brought an end to a certain area of the internet. Yahoo was one of the major early internet players. It ends their time as an independent company. While it wasn't the biggest tech deal of the year, it was kind of this sunset, in a way.
Niu: Yeah. You have to wonder if they regret not selling to Microsoft all those years ago. I don't remember off the top of my head, but I want to say it was in the neighborhood of $30-40 billion, back 10 years ago when Microsoft tried to buy Yahoo. Now, they're selling for pennies on the dollar.
Lewis: Yeah, it's a fraction of it. Yahoo properties have joined AOL and Huffington Post under Verizon's Oath umbrella. The reason I think this is important is, it's another instance of telecom companies trying to build out their offerings by building up their content businesses. This is something we saw with AT&T and DIRECTV in 2015. We saw AT&T attempt to do it again with Time Warner earlier this year. The Justice Department recently attempted to block the $85 billion deal, citing antitrust laws. AT&T said they will fight that decision. But looking out, we see a lot of these companies that provide access to content also deciding to move into content itself. What exactly do you think is going on there, Evan?
Niu: The first really big deal in this notion was the Comcast-NBC deal from 2009, almost 10 years ago at this point. But I think the underlying theme is, these telecom companies are really trying to fight off monetization, because internet service is fundamentally a very highly commoditized service. If two companies can get service to your house, they have the infrastructure to do so, if they offer comparable speeds, then it's just a battle over price and a race to the bottom. There's this commoditization fear among ISPs, because it is essentially a commoditized service. And they just don't want to be seen as nothing more than these dumb pipes. They also want to own the content that goes through those pipes, as opposed to just the pipes themselves, as a way to differentiate and vertically integrate. And there are certainly some antitrust concerns, because if they own the content, they could theoretically not give that content to their competitors as a further way to try to differentiate themselves. We haven't really seen that play out, particularly since NBC is obviously one of the biggest media networks out there, and it's not like NBC is only available on Comcast. So, there are some of these fears, but they haven't really played out. That's kind of the broader picture of why these companies want to do it. Even T-Mobile is now, ironically, after mocking all of their larger rivals for doing this, they're now doing it, too. They're buying a company to basically get into this online video streaming space, in order to get more bundling and trying to combine all these packages, stuff like that. That's the heart of why these companies are trying to do it.
Lewis: And we've seen so many deals like this happen already. It's hard to imagine another one, given the sticker price on some of these. Frankly, having already picked up DirecTV, I was a little surprised to see AT&T try to do it again with Time Warner. Maybe this is the new normal, and this is what we should expect from people who are providing access to content, is looking to scoop up brands themselves. Evan, I have a bunch of folks in the studio looking to get in. We have a bunch of people trying to tape before the holidays. So, I think we're getting close to our time. I don't want to keep Chris Hill waiting.
Niu: [laughs] You never want to make him mad. He gets angry.
Lewis: No. [laughs] I'm sure he'll fight that and whatever he's about to record. But, if I don't talk to you again before the holidays, enjoy your time in Austin, and enjoy your time off.
Niu: You too, man!
Lewis: Listeners, we have a couple housekeeping notes before we close out the show. We just recapped some major notes in 2017, but there's a lot of stuff we missed. If you want more, we have Fool.com's recommended reading list. It's going to be a compilation of some of the best pieces on the site from the past year. All you need to do is write in, firstname.lastname@example.org and we'll send it along to you. Also, this was our last show before the holiday. We're actually going to be doing something a little bit different for the week between Christmas and New Year's. Rather than do individual shows that week, the hosts are going to get together and do a four-part Industry Focus award show. We're trying out this new concept. We thought it'd a fun, Foolish way to wrap up the year. Let us know what you think. The first episode is going to go up on Tuesday of next week. Otherwise, that does it for this episode of Industry Focus. Like I said, if you have any questions, any comments, anything like that, shoot them over to email@example.com, or tweet us @MFIndustryFocus. If you want more of our stuff, you can subscribe on iTunes, or check out The Fool's family of shows over at fool.com/podcasts. As always, people on the program may own companies discussed on the show, and The Motley Fool may have formal recommendations for or against stocks mentioned, so don't buy or sell anything based solely on what you hear. Thanks to Austin Morgan for all his work behind the glass in 2017. For Evan Niu, I'm Dylan Lewis. Thanks for listening and Fool on!
Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Teresa Kersten is an employee of LinkedIn and is a member of The Motley Fool's board of directors. LinkedIn is owned by Microsoft. Dylan Lewis owns shares of GOOGL, Apple, and Facebook. Evan Niu, CFA owns shares of Apple, Facebook, and Netflix. The Motley Fool owns shares of and recommends GOOG, GOOGL, Apple, Facebook, Netflix, and Verizon Communications. The Motley Fool has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool recommends Comcast, TWX, and TMUS. The Motley Fool has a disclosure policy.