Early this month, I published an article explaining a simple way Apple (AAPL) can accelerate growth. In it, I argued that the company could double or even triple its services segment by coming up with a flagship iPhone priced at below $500. While doing this would lower its margins, it would help it reach more people. A good number of the new customers would end up subscribing to its Services products like iCloud, Apple Music, and Apple Pay.
After the article was published, the company’s stock has been hammered, losing more than 10%. This was after its key suppliers like Lumentum (LITE), Skyworks (SWKS), Qorvo (QRVO), and Foxxconn lowered their guidance. Its valuation has moved from more than $1 trillion to the current $838 billion. At this valuation, investors are paying 13x forward earnings. This is the lowest it has been in almost ten years. This makes it reasonably priced. However, unless the company makes critical changes, its stock will continue to deteriorate.
In this article, I will explain how Apple is taking advantage of its customers and how this is translating to weaker sales where it is needed.
Apple Has Taken Advantage of Its Customers
People want what’s best for them, and they can switch on a dime, because there’s always a new disruptor disrupting the last disruptor. So companies should just strive to keep changing and adapting to their customers’ needs.
Apple’s management understands how loyal its users are. They have read reports after reports that show them how valuable they are. They always see the queues that happen whenever they launch their new phones.
Apple’s customers are attracted to its ecosystem. This means that an iPhone user will most likely use an Apple Watch and a MacBook as well.
Recently however, Apple has continued to show disregard for its customers in its iPhone products. It has done this in a number of ways. First, the company removed the popular earphone jack. It started this trend when it launched the iPhone 7 in 2016.
Asked about the reason for removing the jack, Apple’s chief designer, Phill Schiller said this:
“It really comes down to one word: courage. The courage to move on to do something new that betters all of us.”
That was a lie. The reason why Apple did this was that it was not making any money by providing the earphones for free. Two years after the jack was removed, dongles have become the best-selling Apple products. Its airpods sell for $159.
In the recently-released iPhones, the company provided a basic slow-charging charger. The goal for this was to let enthusiasts spend $79 on a fast-charging brick. This is despite the fact that the new iPhones were more expensive than the previous generations.
Tim Cook’s explanation to the current trend of more expensive iPhones was an insult to many enthusiasts. In an interview, he said:
“The phone has replaced your digital camera. You don’t have a separate one anymore. It’s replaced your video camera. It’s replaced your music player. It’s replaced all of these different devices. And so arguably the product is really important. And we’ve found that people want to have the most innovative product available and with that, it’s not cheap to do.”
This was an insult because everyone knows the costs of the iPhones and the margins that Apple pockets. A report by TechInsights found that Apple’s iPhone Max cost about $453 to manufacture as shown below. When you add other costs like R&D and marketing, it still leaves Apple with a healthy margin on the iPhones.
Another reason why Tim Cook’s statement about the need for innovation is hogwash is that the smartphone industry is changing and Apple has been left behind by many smaller companies like OnePlus.
For example, OnePlus recently released the OnePlus 6T, a minor update to the previous version. The phone starts at $549 and is loaded with many features, which are not available in the iPhones. For example, the company has introduced the in-display fingerprint scanner, a feature that iPhones don’t have. While this is a minor feature will likely never come to the iPhone, it shows the lengths at which Chinese manufacturers will go to attract new customers.
Therefore, given a choice between an iPhone XS Max that goes for $1150 and a OnePlus 6T device that goes for $549, most buyers in the emerging markets will go for the latter. Furthermore, they argue that for the price of an iPhone, they can buy two OnePlus 6Ts. Better still, many buyers in the EM markets can buy a Pocofone that goes for $250 and has similar features to OnePlus 6.
Another example of how far behind Apple is on the dual sim feature, which it launched this year. This is a feature that all the other smartphones and feature phones have had for years. While it might not be an important feature in the US and Europe, it is a must-have feature in the developed and emerging markets. For example, in Kenya, most people prefer a dual sim with Safaricom (FRN) and Airtel. They use Safaricom for its M-Pesa feature and Airtel for making calls.
Last but not least, Apple has taken its iPhone buyers for granted when it comes to repairs. Apple was among the first smartphone companies to adopt a glass back. It introduced this build in the iPhone X. The previous models were made of aluminum. Again, Apple said that the reason for this was that a glass was a more premium material than aluminum.
However, as with the dongles, the decision was all about margins. This is because while the new iPhones look good, they are also more fragile. As a result, a small fall can cause the rear and front glass to break. Replacing these glasses at an Apple Store is expensive. As shown below, the cost of replacing the glasses has been increasing.
Source: Phone Arena
There are two main implications of all this. First, it will be impossible for Apple to add more new users. This is because, with the quality of low-priced android phones improving every day, most android users will find it difficult to pay a higher price the iPhone. This is also because of the fact that android’s ecosystem is improving every day.
Second, Apple will continue losing customers especially in the emerging markets like China. In fact, Apple’s sales in China have started to slow down. The same is the case with India, Brazil, and other countries. This is because when these users want to upgrade their smartphones, they will likely consider cheaper premium android phones. The ongoing trade conflict between the US and China will not help things. Consider the following headline from China’s Global Times newspaper.
While the calls of boycotts have fallen to deaf ears for now, there is a likelihood that a good number of Chinese consumers will start supporting their local brands like Xiaomi.
What Apple Needs to Do
As I wrote in the previous article, Apple needs to start focusing on the customers again. To do this, it needs to have a premium low-cost device in the same price range as the OnePlus devices. This does not include the older iPhone 7 that Apple sells for $450. This will help the company increase its iPhone sales, which will lead to more customers in the services segment. Also, it needs to consider the opinions of its customers who dislike some of the new features like scrapping the headphone jack or not implementing a fingerprint scanner at the back. Doing all these will help Apple grow its users, increase revenues, and margins.
Disclosure: I am/we are long AAPL, GOOG.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I am cautiously long Apple because I believe the company will ultimately start focusing on the customers.