Apple: Difficult Choices – Apple Inc. (NASDAQ:AAPL)

All indications point to the fact that Apple (NASDAQ:AAPL) is trying to roll out one of the most innovative phones during the next cycle, which would be the 10th anniversary of iPhone. This would inevitably lead to a massive spike in bill of materials (BOM) for Apple. According to IHS, the recently launched Samsung (OTC:SSNLF) Galaxy S8 also saw an increase in BOM from $264.16 for Galaxy S7 to $307.50. However, it is doubtful if Apple will be able to push the envelope when it comes to selling price.

Delivering on expectations

There is hardly any doubt that Apple’s management will be pulling out all stops for the next iPhone. Many Wall Street analysts have already increased their estimates for current year sales, believing that the iPhone 8 will deliver substantial sales. To deliver blockbuster sales, Apple would need to show more than incremental improvements. There are various rumors floating around about the new functionalities which would be introduced in this version.

However, this will also lead to rapid increase in bill of materials. The latest Samsung Galaxy S8 phone has also seen a spike in BOM of close to 16%. The device starts with 4 GB of RAM and 64 GB of storage, which ended up costing $41.50. The “infinity display” sported by these devices costs $85.00 and has been one of the major factors in the rapid rise of BOM.

After speaking with manufacturers, recent estimates by UBS show a substantial increase in component cost across the board for the new iPhone.

We can see that within these components alone, there is an incremental cost of $71. Last year, iPhone 7 had a BOM of $224.80, which is $36.89 higher than iPhone 6S. The final BOM of the iPhone 8 can very well end up in the range of $325 to $350. This would be a hefty bump in cost for Apple, and it would need to increase its average selling price, ASP, in order to maintain its margins.

How much room does Apple have to increase ASP?

Wall Street consensus is that Apple will end the year with an ASP of close to $675. This holiday quarter, Apple delivered ASP of $693 when a higher proportion of sales was through iPhone 7 Plus. There are rumors that Apple might end up launching two models in the fall, which will be followed by a pricier model after a month or so. This model could end up sporting a price tag of over $1,000. All these factors have led some analysts to forecast that Apple might end the year with a much higher ASP of over $750.

Although there is a high level of anticipation for the next iPhone, the market dynamics in several key regions will limit Apple’s ability to increase its price tag. The biggest factor is the recent growth of two Chinese OEMs: Oppo and Vivo. Together, these two manufacturers more than doubled their sales in 2016 and had total shipments of over 150 million units in China. They are also flexing their muscles in other emerging markets like Southeast Asia and India where Apple is trying hard to gain a decent foothold.

Fig: Rapid rise of Oppo and Vivo…

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