Reasons for the Weak Performance:
Apple, as mentioned earlier, has become less profitable; the stock performance has not been good either. The experts are citing various reasons for this decline. First, the selling price of the iPhone has declined. Second, the iPhone production cost has gone up. Third, the profitability of the iPad has declined in recent years. The reasons:
- The average revenue per unit (ARPU) of the iPhone has gone down. This means that Apple earns less revenue for each iPhone that it sells. For the record, the ARPU for the iPhone was $647 in fourth quarter 2011 which declined to $577 in the recent quarter. The reason behind the declining ARPU is the cheap availability of iPhone is tagged at $550 and the entry-level phone is priced at $450. Further, the low-end and mid-end phones are getting relatively more popular with customers. The old iPhones are too good for a replacement. Thus the consumers who already have an iPhone don’t feel the need to buy a new one. Further, in the U.S., the iPhones are being sold at a lower price than all the other countries. This pushes down the ARPU each time an iPhone is sold in the U.S.
- The production cost for iPhone has gone up. The gross profit is calculated by subtracting the cost of the goods sold from the revenue. The cost of goods sold for a particular product consists of the following:
2. Bills of material.
3. Warranty cost.
4. Depreciation and amortization.
5. Manufacturing and shipping.
Apple pays $10 per device it sells to Nokia as royalties. This, however, accounts for too little a portion of the total production cost and hence an increase in royalties can easily be neglected. So can the bills of material, as it has been constant over the years.
The warranty policies have changed which implies for a higher production cost. This has currently increased to 2.95%. Further, depreciation and amortization expenses have increased. The amount that the company spends on purchasing software and hardware for their devices is capitalized on the balance sheet. With time, it shows up as amortization cost on the company’s income statement. So, as the D&A costs are increasing faster than Apple’s revenues, the production cost rises consistently.
- The iPad has become less profitable over the years. With the iPhone margins declining over the last two years, the iPad too hasn’t shown much promise. In fact, the decline in the iPad’s margins has been much more severe. The iPad production cost also has gone up. In this case too we can find an increase in the manufacturing costs because of an increase in the D&A costs. The gross margin for the iPad has declined from 33% in 2011 to 22% in 2013.
The increasing production costs, declining share prices and reduction in the selling prices of the devices sold by the company have together been reducing Apple’s profit margins. However, to counter the problems discussed in the article Apple has devised new strategies. These strategies are:
· To maintain the iPad 2 in the lineup rather than replacing it with the third or fourth generation of iPads. Also from 2011 to 2012 the iPad 2 (16GB) bills of material fell from $300 to $237. Assuming the bills of material have continued to decline it should yield a pretty high gross margin today.
The iPad Air also has lower BOM than the third generation iPad. The price of the newest version of the iPad Mini has been increased from $325 to $350.
So while Apple's gross margin has suffered a lot of blows over the last two years, the new product lineup should offset the gross margin losses that are expected to be seen during the next year. Thus investing in Apple isn’t a bad idea after all.