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Apple (AAPL) iPhone Mini Could Minimize Sales, Margins, Profits, And Image

 January 10, 2013 10:40 AM

(By Rich Bieglmeier) The Wall Street Journal reports that Apple (APPL) is working on a low-priced iPhone; however, the paper did hedge writing, "Apple could still decide to scrap the plan."

There has been pressure on Apple to introduce a cheaper version of the iPhone to compete with the likes of Samsung. According to data from IDC, Apple's share of the worldwide smartphone market has fallen from 23% to in the fourth quarter of 2011 to 14.6% today. Meanwhile, Samsung's share has risen more than threefold during the same timeframe, jumping from 8.8% to 31.3%.

The WSJ's articles cites recycling parts and making a shell of plastic instead of aluminum as ways Apple could cut production costs.

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The question Apple's management will have to balance is whether a less expensive iPhone will cannibalize current higher end iPhones sales and hurt revenues, or bring in enough new iPhone buyers to make up for lower sales prices with higher volume?

To answer the question, let's look at iPad mini's reported impact on iPad sales. Morgan Stanley and AlphaWise surveyed more than 1,000 iPad tablet buyers and found that 47% of iPad mini buyers are new to Apple products. In other words, 53% of the people who previously purchased an Apple product chose the iPad mini over the full sized version.

However, the same report show that Apple's percentage of the tablet market remained the same at 50%, which means the iPad mini did not move the needle and increase share or take away business from lowered priced competitors.

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This is fine and dandy as long as the pie increases in size. IDC says the tablet market will continue to grow faster than RGIII turned from hero to goat. (Boy the media love to build'em up and knock them down. No worries, Robert you are the man!) By 2016, tablet shipments are expected 282.7 million units worldwide, up from projections of 172.4 million for 2013 – 64% growth in three years. IDC also say to expect Apple to lose 2.5% of its share of the tablet market to Android devices, just like smartphones, and Microsoft's (MSFT) Surface; a little guesstimating, 47.5% of 282.7 million equals 134 million iPads by 2016.

Citibank analyst Glen Yeung believes iPad mini sales could account for up to 50% of the current quarter's sales. He wrote, "Around 10 million iPad Minis were manufactured for the current quarter, compared with 10 million to 15 million for all other iPads combined." And he added, "iPad Mini shipments are likely to increase (quarter to quarter) as panel and assembly yield issues subside." If Yeung is correct, by 2016 iPad mini could dominate iPad sales, meaning higher volume will be necessary to maintain eps and revenue growth rates.

By contrast, IDC believes smartphone sales will stall worldwide, calling for 1.4% growth in 2013, and for shipments to rise from 1.7 billion in 2012 to 2.2 billion in 2016 – 29.4% growth in four years.

With iPad mini as our example, Apple consumers have shown they are willing to pay down for a smaller, scaled down version of the high-end model. If the main difference between the standard iPhone and iPhone mini is plastic versus aluminum, then the cannibalization could be greater than the iPad's mini impact on the full sized version.

With its worldwide share of the smartphone market shrinking, the introduction of an iPhone mini could stem the tide and help increase Apple's market share; although, the iPad mini's experience suggests otherwise.

For the sake of argument, let's say the lower priced iPhone helps Apple reach 20%, up from its current global share of 18.8% according to IDC. Using IDC target of 29.4% growth for smartphones and some market share gains, based on projected iPhone sales 180 million this year, then Apple would sell 252.3 million iPhones in 2016.

Should the iPhone mini capture a similar percent of iPhone sales as Citi analyst Yeung believes iPad mini will of iPads, then half of iPhone sales could be the discounted version within the next four years. Gene Munster of Piper Jaffray believes the new phone will sell for $99 and $149 versus $199 for a subsidized phone, account for 30% of all iPhone sales in 2013, and have gross margins close to 30% compared to 55-60% for current iPhone models.  

If Apple discounts the iPhone mini the same 40% as the iPad mini versus the iPad, then it will be the equivalent of selling 201.8 million iPhones today, which means limited growth in EPS and revenue coming from iPhones. To maintain their current revenue and EPS growth rates from smartphone sales, Apple would need to sell more than 300 million iPhones in 2016. So, if our math is correct, the iPhone mini would have to take Apple's share of the worldwide market to almost 25% to stay on its current path.

Overall, iStock believes the iPhone mini could commoditize Apple's business and hurt the brand. While the company will likely add share, it could be a struggle to pick up enough volume to offset lower prices and margins from iPhones. iPads and innovations will necessarily become a larger focus for the company to maintain its "cool" edge.


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