Market Share vs Gross Margins
In the past, I’ve brought up the fact that Apple could win at the low-cost game if they ever made a concerted effort to design a phone with low cost as the main priority. But I’ve never given that road much more thought because it would potentially do two things. Lower average gross margins and dilute the strong iPhone brand. But if Apple is serious about making services their main growth engine in the future. It’s a whole new ballgame.
It remains to be seen just how committed Apple is to their new services division. For instance, we still don’t know what the pricing structure is going to be for their upcoming video streaming business. But already, I’ve been surprised at moves like allowing iTunes and Airplay 2 on Samsung TVs. And Apple Music being offered on the Amazon Echo. Sacrilege! Apple is starting to show a willingness to put their hardware market share at risk in the name of expanding their services. But how far is Apple willing to take this? Would they ever be willing to do this with the iPhone?
I’ve written many times that the success of Apple’s services is going to rise and fall with the size of their installed phone base. I stand by that. But I never said that Apple had to sell exclusively iPhones with little Apple logos on the back.
When I was working with the Herman Miller furniture corporation, I made a due diligence trip down to South America with then CFO Brian Walker (later named CEO) to scope out a potential acquisition. Herman Miller wanted to get into the South American market but we had a big problem on the cost front. Our products aimed at the American market were much more expensive due to the use of thicker gauge steel, fire retardant, etc. We could have created products for South America that were competitive in price but we didn’t want to dilute our brand. No one wanted the Herman Miller name on flimsy cubicle walls or products that caught fire easily. So we looked at purchasing another brand to compete with a bill of materials that was more apple-to-apples.
Apple has a similar problem in the developing world. Even with year or two old components, iPhones are relatively expensive to manufacture due to the premium design choices. Color matched glass and chamfered aluminum don’t come cheap. Then there’s the cost of the retail service and support apparatus which is spread over all iPhones sold.
But Apple could effectively compete on the basis of price if they ever chose to. And I’m talking about phones in the $300 - $500 range. Even though the iPhone has under a 20% global market share on the basis of operating system. The iPhone is perennially the number one individual product line. Meaning that the iPhone outsells any other Android manufacturer’s largest product line. Why is this important? Because volume is what makes low-cost producers successful.
Apple has a long list of parts in the bin that they could choose from in designing a low cost phone. Many internal components like brackets, frames, adhesives, etc could the be same. And by strategic decisions on expensive components like the screen, case, and memory Apple could bring down the cost of a phone considerably. But wait there’s more.
The cost of all those retail stores with all of that service inventory is very high. Is it fair to spread that cost over developing nations with few or no Apple stores? Apple could significantly reduce the price of their phones if they removed allocations which pay for the retail empire. But if Apple tried to significantly change iPhone prices by removing Apple Store allocations in some countries but not others, that could get very messy very quick.
Of course, offering a low-cost phone with cheap black plastic casing and a dim screen that has no Apple Store support is problematic. When people think “Apple”, they think premium products with top notch support. This is where the idea of Apple creating or acquiring a brand comes in.
Premium brands can’t afford to offer watered down products lest they destroy their image. And it’s likewise hard for value brands to offer expensive products. That’s why Toyota and Nissan respectively created Lexus and Infiniti.
If Apple was to create/buy a new phone brand without an Apple logo anywhere on it, that would effectively protect the premium iPhone brand. It would also solve the messy Apple Store allocation problem. This new brand of phone would be kind of like the non-Apple hardware that you can buy at the Apple Store today. You can buy Beats Headphones or a DJI Gimbal but don’t expect anything other than return services at a store.
If Apple is willing to take a hit in premium iPhone margins because they calculate the return in their services business is greater it opens up a whole new world. They are then free to make a big market share push unlike they’ve ever done in the past.
At this point, some may ask “Why not license iOS to other manufacturers?”. The problem with that is that other companies are reaping the profits from their operating system. Apple would lose revenue from their premium iPhone segment and other companies would pick it up. If Apple creates another wholly owned brand, they would lose some revenue but that would be offset by the pickup elsewhere within the company. And it’s not the Apple way to leave design decisions up to others.
And increased market share has some intangible benefits beyond just increased services revenue. Non-revenue services such as iMessage seem to increase their OS stickiness the more widespread the service. You think iMessage is sticky now with less than 20% global market share? Imagine if Apple could double that to 40%?
I’m not making the case that Apple should create another brand. I don’t have enough data to come to a conclusion. Up until now, Apple has always been blasé about market share. But up until now, Apple has always prioritized premium hardware gross margin above all else. I’m not sure how much longer that may be the case. I suspect that within the circular walls of Apple Park that this debate is raging right now. That may be why Apple has left video streaming pricing out of any keynotes thus far.
I’m only saying that this new hardware perestroika opens up some interesting new possibilities. We shouldn’t be too surprised if Apple makes a big market share push in the near future. Because if Services is the new objective, then increasing market share starts to outweigh hardware gross margins. But that’s a big if.
I’ve written many times that the success of Apple’s services is going to rise and fall with the size of their installed phone base. I stand by that. But I never said that Apple had to sell exclusively iPhones with little Apple logos on the back.
When I was working with the Herman Miller furniture corporation, I made a due diligence trip down to South America with then CFO Brian Walker (later named CEO) to scope out a potential acquisition. Herman Miller wanted to get into the South American market but we had a big problem on the cost front. Our products aimed at the American market were much more expensive due to the use of thicker gauge steel, fire retardant, etc. We could have created products for South America that were competitive in price but we didn’t want to dilute our brand. No one wanted the Herman Miller name on flimsy cubicle walls or products that caught fire easily. So we looked at purchasing another brand to compete with a bill of materials that was more apple-to-apples.
Apple has a similar problem in the developing world. Even with year or two old components, iPhones are relatively expensive to manufacture due to the premium design choices. Color matched glass and chamfered aluminum don’t come cheap. Then there’s the cost of the retail service and support apparatus which is spread over all iPhones sold.
But Apple could effectively compete on the basis of price if they ever chose to. And I’m talking about phones in the $300 - $500 range. Even though the iPhone has under a 20% global market share on the basis of operating system. The iPhone is perennially the number one individual product line. Meaning that the iPhone outsells any other Android manufacturer’s largest product line. Why is this important? Because volume is what makes low-cost producers successful.
Apple has a long list of parts in the bin that they could choose from in designing a low cost phone. Many internal components like brackets, frames, adhesives, etc could the be same. And by strategic decisions on expensive components like the screen, case, and memory Apple could bring down the cost of a phone considerably. But wait there’s more.
The cost of all those retail stores with all of that service inventory is very high. Is it fair to spread that cost over developing nations with few or no Apple stores? Apple could significantly reduce the price of their phones if they removed allocations which pay for the retail empire. But if Apple tried to significantly change iPhone prices by removing Apple Store allocations in some countries but not others, that could get very messy very quick.
Of course, offering a low-cost phone with cheap black plastic casing and a dim screen that has no Apple Store support is problematic. When people think “Apple”, they think premium products with top notch support. This is where the idea of Apple creating or acquiring a brand comes in.
Premium brands can’t afford to offer watered down products lest they destroy their image. And it’s likewise hard for value brands to offer expensive products. That’s why Toyota and Nissan respectively created Lexus and Infiniti.
If Apple was to create/buy a new phone brand without an Apple logo anywhere on it, that would effectively protect the premium iPhone brand. It would also solve the messy Apple Store allocation problem. This new brand of phone would be kind of like the non-Apple hardware that you can buy at the Apple Store today. You can buy Beats Headphones or a DJI Gimbal but don’t expect anything other than return services at a store.
If Apple is willing to take a hit in premium iPhone margins because they calculate the return in their services business is greater it opens up a whole new world. They are then free to make a big market share push unlike they’ve ever done in the past.
At this point, some may ask “Why not license iOS to other manufacturers?”. The problem with that is that other companies are reaping the profits from their operating system. Apple would lose revenue from their premium iPhone segment and other companies would pick it up. If Apple creates another wholly owned brand, they would lose some revenue but that would be offset by the pickup elsewhere within the company. And it’s not the Apple way to leave design decisions up to others.
And increased market share has some intangible benefits beyond just increased services revenue. Non-revenue services such as iMessage seem to increase their OS stickiness the more widespread the service. You think iMessage is sticky now with less than 20% global market share? Imagine if Apple could double that to 40%?
I’m not making the case that Apple should create another brand. I don’t have enough data to come to a conclusion. Up until now, Apple has always been blasé about market share. But up until now, Apple has always prioritized premium hardware gross margin above all else. I’m not sure how much longer that may be the case. I suspect that within the circular walls of Apple Park that this debate is raging right now. That may be why Apple has left video streaming pricing out of any keynotes thus far.
I’m only saying that this new hardware perestroika opens up some interesting new possibilities. We shouldn’t be too surprised if Apple makes a big market share push in the near future. Because if Services is the new objective, then increasing market share starts to outweigh hardware gross margins. But that’s a big if.
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