Building a cheap iPhone would be an 'insane idea' for Apple, Needham says
It would be "impossible" for Apple to successfully build a cheap iPhone without doing lasting damage to the company's highly profitable and successful smartphone brand, analyst Charlie Wolf of Needham & Company believes.
Wolf's thesis was presented on Wednesday in a note to investors, a copy of which was provided to AppleInsider. In it, the analyst went as far as to say that building a cheap iPhone to capture the low end of the smartphone market would be an "insane idea" for Apple, destroying the company's gross profits seen in its current strategy.
For example, to hit the so-called "sweet spot" of smartphone pricing in emerging markets, Apple would have to price a hypothetical cheap iPhone at around $350 without a carrier contract subsidy. If Apple were to target a hypothetical 40 percent gross margin with such a product, Wolf's estimates suggest the cheap iPhone would need a bill of materials at around $90 --?or less than half the bill-of-materials cost of high-end iPhones.
Apple's current mid-range handset, the iPhone 5c, sells starting at $99 with a new two-year service contract, or $549 unlocked and contract-free. Wolf's calculations suggest the bill of materials for that handset is $165, plus the aforementioned $120 cost of other goods sold.
A total $285 cost on a $550 smartphone would result in gross margins of 48.2 percent, based on Wolf's estimate.
Because of these figures, the analyst doesn't believe that Apple will change its iPhone pricing, even as the maturing smartphone market inevitably becomes saturated, limiting growth potential. Wolf also doesn't believe that carriers in markets like the U.S., where contract subsidies are common, would begin cutting back on those subsidies, as executives at AT&T have suggested they will.
"The evidence suggests that Android users are switching to the iPhone in far greater numbers than users switching from the iPhone," Wolf wrote. "In a saturated market, we believe, if anything, that the migration of Android users to the iPhone will accelerate, absent significant price cuts on Android phones. Obviously, growth will slow. But we don't believe it will stop."
Rumors of a so-called low-cost iPhone have persisted for years, but they picked up steam last year when numerous reports consistently claimed Apple was planning to debut a new plastic-backed iPhone. With last September's launch of the iPhone 5c, the hardware side of those rumors proved accurate, but the $549 entry price was not the aggressively priced handset some Wall Street watchers were expecting.
Instead, some investors had hoped that Apple would price its new iPhone model as low as $400 without a contract subsidy. Some observers still believe Apple should react to cheaper Android-based devices in the smartphone space, and aggressively move into a lower-priced market with a new hardware model.
Wolf's thesis was presented on Wednesday in a note to investors, a copy of which was provided to AppleInsider. In it, the analyst went as far as to say that building a cheap iPhone to capture the low end of the smartphone market would be an "insane idea" for Apple, destroying the company's gross profits seen in its current strategy.
For example, to hit the so-called "sweet spot" of smartphone pricing in emerging markets, Apple would have to price a hypothetical cheap iPhone at around $350 without a carrier contract subsidy. If Apple were to target a hypothetical 40 percent gross margin with such a product, Wolf's estimates suggest the cheap iPhone would need a bill of materials at around $90 --?or less than half the bill-of-materials cost of high-end iPhones.
Reaching a $350 iPhone price point while maintaining 40% margins would be impossible for Apple, analyst Charlie Wolf believes.Wolf's estimates hinge on what he calculates to be a $120-per-phone "cost of goods sold" --?costs associated with the iPhone that are not included in the bill of materials. These costs include warranty expenses, freight, packaging, telephone support, licensing fees and more.
Apple's current mid-range handset, the iPhone 5c, sells starting at $99 with a new two-year service contract, or $549 unlocked and contract-free. Wolf's calculations suggest the bill of materials for that handset is $165, plus the aforementioned $120 cost of other goods sold.
A total $285 cost on a $550 smartphone would result in gross margins of 48.2 percent, based on Wolf's estimate.
Because of these figures, the analyst doesn't believe that Apple will change its iPhone pricing, even as the maturing smartphone market inevitably becomes saturated, limiting growth potential. Wolf also doesn't believe that carriers in markets like the U.S., where contract subsidies are common, would begin cutting back on those subsidies, as executives at AT&T have suggested they will.
"The evidence suggests that Android users are switching to the iPhone in far greater numbers than users switching from the iPhone," Wolf wrote. "In a saturated market, we believe, if anything, that the migration of Android users to the iPhone will accelerate, absent significant price cuts on Android phones. Obviously, growth will slow. But we don't believe it will stop."
Rumors of a so-called low-cost iPhone have persisted for years, but they picked up steam last year when numerous reports consistently claimed Apple was planning to debut a new plastic-backed iPhone. With last September's launch of the iPhone 5c, the hardware side of those rumors proved accurate, but the $549 entry price was not the aggressively priced handset some Wall Street watchers were expecting.
Instead, some investors had hoped that Apple would price its new iPhone model as low as $400 without a contract subsidy. Some observers still believe Apple should react to cheaper Android-based devices in the smartphone space, and aggressively move into a lower-priced market with a new hardware model.
Comments
What he's actually saying is that building a cheap iPhone while keeping the same profit margin wouldn't be viable. None of his arguments rule out Apple producing a cheap iPhone with lower margins (that's not to say that there aren't arguments against it, but this isn't one of them).
edit: The recent article on App Store revenues breaking $10 billion is relevant here - with a low-cost device, the profit wouldn't be made on the hardware. It would be made on app / software / music sales, and also through longer-term sales due to ecosystem lock-in (get them into the Apple ecosystem with a cheap iPhone, and because moving to Android would cost them all their apps etc. you're very likely to have them hooked).
Another numbskull ANAL-yst giving his 2-cents, worthless as it is.
Apple will build an inexpensive iPhone when it can do so. This means it has to be an iPhone - with all that it means.
Apple actually already has been selling an inexpensive iPhone.
The iPhone 3G, 4, and 5c have been selling for FREE with a contract on many carriers. That is pretty cheap if ZERO is considered cheap.
Another numbskull ANAL-yst giving his 2-cents, worthless as it is.
Apple will build an inexpensive iPhone when it can do so. This means it has to be an iPhone - with all that it means.
Apple actually already has been selling an inexpensive iPhone.
The iPhone 3G, 4, and 5c have been selling for FREE with a contract on many carriers. That is pretty cheap if ZERO is considered cheap.
Apple is not selling cheap phones, the service providers are still buy the phone from apple at full price, or at some discounted price. Also, it could be that apple does not get the full value of the phone until the 2 yrs of the contract is up. Apple could be subsidizing some portion of the purchase over time.
At one time it was believed that apple was getting some portion of the data contract over time since they were the enablers of the service providers ability to sell more expensive data contracts. This is also why no mater what if you have an iphone you have to have data plan whether you bought the phone outright or not.
It is the service providers selling cheap iphone to get someone hooked on a 2 yrs or longer data contract. Which is worth $720 to the provider.
Tim Cook is just killing shareholders because he doesn't want to part with his personal cash hoard. Doing nothing with that money is not going to help either Apple or shareholders. The share price will continue to be driven down towards zero if he doesn't take that money and create additional revenue streams. No company needs to save $100 billion for a rainy day. Apple is so incompetent to simply let Google dominate the search engine business and the smartphone industry and not do anything to fight back. Meanwhile Google's value soars and Apple's value plummets. Tim Cook clearly does not know how to do anything to stop Apple from sinking.
So, the question that he should have asked was if it would be better for Apple to build and sell an iPhone for a lower margin if they increased number would lead to more overall profits.
As for those that contend that Apple couldn't make a cheaper iPhone and make a profit. I present the iPod Touch ($229) and the markup cost for adding cellular to an iPad ($130), both of which Apple makes a profit on. Thus, it is absurd to suggest that Apple couldn't marry these two things into an iPhone with a selling price of around $359 and sell it for a profit.
There are many ways to make the phone appears more affordable. Current carrier subsidies are certainly most popular to reduce up-front cost to $199. But if the Black Friday sale is any indication, I think store gift cards will be used more in the future to promote iPhones. Free apps and iTunes gift cards would also work.
Everyone talking about alternative ways of recovering the cost of an iPhone don't understand what Charlie is saying. He's agreeing with Apple that a "cheap" iPhone is out of the question. He's on Apple's side not the crazy analysts who don't understand what Apple is all about.
On the other hand, the only way for Apple to "sell" an iPhone for less than $400 and retain some kind of profit margin would be to produce a totally different type of phone with brand new components. Everything on one chip, a different type of power source, and simplified manufacturing along with a minimum amount of licensing fees might allow them to produce a truly inexpensive, quality phone. Until then, we pay for what we get and let Samsung produce the bulk of the throw-away phones.
All Apple would need to do is take some of that unused reserve cash pile and expand the business into other areas such as mobile payments, cloud services or creating its own search engine and ad business. That way Apple could lower the price of some of its iPhones and still be able to boost revenue and offset some of those margin losses. Tim Cook needs to think outside of his little hardware only box. Android already owns the smartphone industry due to completely saturating the entire planet with Android devices. Apple has absolutely no room to grow iPhone sales and can never gain any market share against Android when every Android smartphone is half the price of an iPhone.
Tim Cook is just killing shareholders because he doesn't want to part with his personal cash hoard. Doing nothing with that money is not going to help either Apple or shareholders. The share price will continue to be driven down towards zero if he doesn't take that money and create additional revenue streams. No company needs to save $100 billion for a rainy day. Apple is so incompetent to simply let Google dominate the search engine business and the smartphone industry and not do anything to fight back. Meanwhile Google's value soars and Apple's value plummets. Tim Cook clearly does not know how to do anything to stop Apple from sinking.
Sinking?
Shut up. I doubt that someone that says what you said even has an house or sustains a family with his own cash.
Educate yourself.
Maybe this time it's not really the analyst's fault that he needs to point out to the stupid segment of the investing public that this constant drumbeat for Apple to sell a cheap phone does not make any business sense whatsoever. Lord knows we have enough of those drumbeaters even on this forum.
Okay people, let me lay it out clearly: In a market like smart phones, tablets and PCs where the main differentiating feature is the software esp. the OS, the following has been proved by past experience:
1. No one will buy a cheap gimped product. (386SX, PC Jr., netbooks, 3rd World versions of Windows.)
2. A cheap or cheaper product will sell only if it can do essentially the same things that the more expensive version can.
3. But when you sell a cheap or cheaper product that does essentially what the more expensive product does, it kills the market for the more expensive (i.e. high margin) product. Notice, there is no significant market for high end Windows PCs. Anyone remember Northgate? Recall that among the first things Steve Jobs did when he returned to Apple was he killed the Mac clones.
Apple might be able to build a cheap iPhone and even get a decent margin out of it, but that will kill their high end, high margin, vastly more profitable smart phone line.
What does Android "own" exactly? I haven't seen anything good come from all that market share. You'll notice how developers and accessory maker still flock to Apple even though they have a fraction of Android's market share. What does that tell you?
Market share makes a great headline... but there's no compelling story after that.
Apple sells more and more phones every year. And expensive phones at that. That's more important than how they rank on a market share chart.
Like I said before... market share isn't the trophy you think it is.
Google is an advertising company and they also have the most popular search engine.
Apple sells phones... a lot of phones.
What are we comparing again?
There are dozens of companies who are actually sinking. Have you seen HTC lately?
So what is Apple doing wrong?
I agree it would be "insane." Just ask Nokia. Weren't they the world leader in the number of "dumb" phones, at one time?
The Walmart business model (sell a lot of crap, cheap!) is fun for a while. Everyone running around waiving reports of increases in market share,
In reality, you're just wearing out your equipment, less and less money for R&D, less money for promotion while waiting for the inevitable, albeit slow, destruction of your business. Oh, and just before that, you hire an overpriced "store closing," "cost-cutting," "all-talk" CEO that puts the final nail in your coffin!
Hello, Dell, HP.
Best.
What he's actually saying is that building a cheap iPhone while keeping the same profit margin wouldn't be viable. None of his arguments rule out Apple producing a cheap iPhone with lower margins (that's not to say that there aren't arguments against it, but this isn't one of them).
edit: The recent article on App Store revenues breaking $10 billion is relevant here - with a low-cost device, the profit wouldn't be made on the hardware. It would be made on app / software / music sales, and also through longer-term sales due to ecosystem lock-in (get them into the Apple ecosystem with a cheap iPhone, and because moving to Android would cost them all their apps etc. you're very likely to have them hooked).
One argument would be a cheaper iPhone would rob sales of higher end models. As long as Apple is growing its business, there is no reason to sacrifice margins.
I also don't think Apple wants to be a Google or Amazon that sells a device with low profit margins hoping to make a profit on service sales. It was reported recently that music sales are stagnant, and how much money does Apple really make off app sales? Most apps are free to which Apple pays a cost in terms of bandwidth to deliver.
Well, unfortunately, we saw in the 80s what happens when Apple preserves its margins and profits above all else -- the momentum of a much cheaper, open ecosystem, however inferior, is hard to stop. As a pure defensive play, increasing marketshare will have other benefits - App developers and third-party support (like car manufacturers) will always chase the largest market. Selling a $299 phone that costs $130 to make is still a pretty good profit, and a generation of kids might grow up in the Apple fold.
All Apple would need to do is take some of that unused reserve cash pile and expand the business into other areas such as mobile payments, cloud services or creating its own search engine and ad business. That way Apple could lower the price of some of its iPhones and still be able to boost revenue and offset some of those margin losses. Tim Cook needs to think outside of his little hardware only box. Android already owns the smartphone industry due to completely saturating the entire planet with Android devices. Apple has absolutely no room to grow iPhone sales and can never gain any market share against Android when every Android smartphone is half the price of an iPhone.
Tim Cook is just killing shareholders because he doesn't want to part with his personal cash hoard. Doing nothing with that money is not going to help either Apple or shareholders. The share price will continue to be driven down towards zero if he doesn't take that money and create additional revenue streams. No company needs to save $100 billion for a rainy day. Apple is so incompetent to simply let Google dominate the search engine business and the smartphone industry and not do anything to fight back. Meanwhile Google's value soars and Apple's value plummets. Tim Cook clearly does not know how to do anything to stop Apple from sinking.
Honestly Odo, you're just getting tiresome. You're just a worn out old bag of one-sided half-truths, cherry picked facts, and illogical conclusions. So you got excited out of your wits, poured all your savings into AAPL at 695 and got burned when it came down to more realistic levels. Tim Cook is one of the few CEOs who don't let the share price unduly influence their decision making. And if that drives off short horizon investors, so much the better. If you think Google is really such a great company, then put your savings there and earn back what you lost in AAPL when you got swept up in the tide of euphoria. No shame in that, even professional hedge fund investors succumbed to the irrational exuberance over AAPL.