The Apple (AAPL) iPhone: Lessons on Industry Pricing Power
June 9th, 2009 by 
James Cullen
A few days ago, I reviewed Chris Mayer’s book, “Invest Like a Dealmaker.”
One very brief section of the book that I enjoyed, but did not mention in my review, came back to me upon reading news that Apple (AAPL) once again cut the price of the iPhone – essentially, that some industries offer inherently poor returns. Citing a presentation from J. Carlo Cannell of Tonga Partners, Mayer writes:
Cannell then chose several industries that have not made money for investors, on average, for years… By the way, these numbers make things look better than they actually were for most investors. These losses are only the losses experiences by surviving investors – incredibly, these numbers don’t include the big zeroes… Let’s take a look at computer hardware manufacturers, another graveyard of investment returns. There are 68 names in this index… with negative 13 percent annual returns. Computer hardware has been a tough business for investors.
It would be short-sighted to lump Apple in with a contract PC manufacturer, but there’s a grain of truth here: tech devices tend to have a very short shelf life where they can maintain pricing power, and thus provide much in the way of value to shareholders. Motorola (MOT) and the Razr come to mind as a classic example, but the price trajectory of the iPhone (from $500 and $600 launch models, to the present $99 to $299) is stark and hard to overlook. Further, since the late June 2007 launch of the iPhone, shares have actually slightly underperformed those of smartphone competitor Research in Motion (RIMM). This could be due to a myriad of factors, not the least of which is that the iPhone hasn’t exactly killed the Blackberry in units shipped:
I also find it telling where Google’s (GOOG) focus on the mobile handset device is: the operating system. As a company, they’ve been shrewd operators about which part of the value chain they target, as can be seen in where their focus is regarding content. Likewise, there’s been more value to be had in software than hardware, which is why the existing strategy used for the iPhone makes me think it’s underutilized.
Now, I’ve been critical of the valuation on AAPL (and RIMM) at several points over the last two years. As they are now, both seem priced to deliver modest intermediate-term returns at best. Though I love my Blackberry, and Research in Motion hasn’t had to cross this bridge yet, Apple looks to have much better long-term prospects because it has a more diverse reach into digital media – what Research in Motion will do to avoid becoming “just another handset” company, with much-reduced ASPs, is still unclear at this point.
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Disclosure: I own a Blackberry, but no stocks in any company mentioned. Data provided by Gridstone Research.
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June 9th, 2009 at 1:27 am
You reference initial launch pricing of from $500 and $600 and compare that to the present $99 to $299. What about the carrier subsidies?
Yes, consumers will now pay $99 to $299, but Apple will get much more than that per unit. How much more? I don’t know, you tell me. But the comparison provided seems a bit misleading without that information.
June 9th, 2009 at 2:22 am
[...] The Apple (AAPL) iPhone: Lessons on Industry Pricing Power College Analysts - 1 hour ago One very brief section of the book that I enjoyed, but did not mention in my review, came back to me upon reading news that Apple (AAPL) once again cut the price of the iPhone – essentially, that … [...]
June 9th, 2009 at 9:06 am
iphone boast of its cool applications but one drawback is the keyboard settings. Many people are accustomed to the standard numerical pad style but the iphone utilizes the keyboard style for making typing. Maybe this is the reason why Apple is reducing its price value.
June 9th, 2009 at 6:03 pm
I came to check up on banks and you’re talking apple. Its like the gift that keeps on giving. I havent had a chance to look through the numbers since the new pricing, but I suspect people are reading too much into this. I say this because reducing prices on your old version is hardly a step down in pricing. This seems more in line with the natural progression of technology. Yes they are now offering “a cheaper line”, but really its the older line so you have to be careful about assumptions, particularly in a tech sector in which they in particular have been sourcing product on the cheap. Like I said I havent had a chance to look through and confirm this, but I remember noticing last couple of quarters the margin on the iphones was out of whack compared to where they expected to be i.e. too high, so they did have room to come down on pricing. The question is whether they have accepted lower margins on top of the range iphones (2008 vs 2009) from this price move and that is not clear. I personally was surprised by the move, but I must say its an innovative way to approach having a cheaper phone for those who cant pay up. The old iphone also competes quite well with the blackberry so why get rid of it.
If your point is that in technology you have to keep your feet moving to stand still, thats fair, but I dont see that in the same light as a price cutting war etc. You also need to be wary of falling too hard for that old Buffett canard about tech. I love/respect Buffett but I dont see this as any different from any other business that has to make sure it innovates and protects its turf. Every company has pressure to stay ahead; the question is whether you are buying something that has real franchise value and thus able to price above the cost of development. If you look at apple’s pricing you are not worried about the commodity factor or the development side. At least not yet.