Apple: Trouble in Paradise?

Jacob is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

In its latest quarterly results,  Apple (NASDAQ: AAPL) scaled record high revenues on the back of iPhone and iPad sales. However, the company is showing signs of fatigue now leading to better prospects for its competitors such as Nokia, Research In Motion, and Google all of which are looking like much better plays now, marking a substantial improvement from six months ago.

Apple’s  first quarter revenues stood at $54.51 billion, an 18 percent increase over the same period last year. This was made possible by the record 47.79 million iPhones sold, marking a jump of 29 percent, and 22.86 million iPads, which increased 48 percent. Apple also sold 4.06 million Macs while net income stood at $13.1 billion. As always, Apple also reported some interesting statistics regarding its app store which saw 2 million downloads in December.

These are undoubtedly big numbers; however, there are some causes of concerns beneath the surface. With an increasing number of units sold, the share of older and comparatively lower priced models is increasing – something which stands to have a negative long term effect on profit margins.

In fact, this trend is already having some effect on margins – operating margin during the quarter dropped 580 basis points from the previous year while net profit remained flat. The average selling price of iPad dropped 21.4 percent during the quarter as sales of the lower priced iPad mini picked up.

Similarly, Verizon reported that only half of the iPhones it sold in the quarter were the latest generation gadgets. Something to this effect was also said during the conference call when Apple said it is experiencing supply bottlenecks with the iPhone 4 and the iPad mini. What these statistics indicate is that customers are finding the older versions fit for use. Simultaneously, sales in the U.S. – its largest market – are not growing fast enough while Apple is finding it hard to peddle its ridiculously high priced products in developing markets such as India.

In hindsight, one can argue that Apple’s tag of the world’s most valuable company, cornering ExxonMobil, was something of a farce. However, Apple did beat the oil giant in the market cap game but it has been the feeling of some observers, and has since become shared wisdom, that margins on electronic gadgets are bound to come down eventually. Many analysts believe that companies like Apple need to innovate substantially to sustain the fat margins witnessed in the earlier stages of any gadget’s introduction.

The oil industry represents a mature one where almost every tactic of product differentiation has been tried and valuations have now boiled down to largely scale. Unfortunately, the iPad and iPhone have also hit this plateau now. As mentioned above, the relatively strong popularity of Apple’s previous generation iPhone is simply reflective of the fact that users don’t see the iPhone 5 substantially different from the previous generation.

The fact that the company is offering big discounts on the previous generation phones is also luring users to opt for it – a trend which is effectively bringing down the average selling price of the product. The key question for Apple is whether it can afford to reduce discounts on iPhone 4 – the answer is no as the competition including Samsung and RIMM are hot on its tail.

What Apple also cannot do is discontinue the previous generation iPhone. And bumping up the price of iPhone 5 does not appear to be on the radar anywhere. Apple badly needs a new product where it can apply its charisma, but its pipeline remains empty as of now.

Interestingly though, other handset manufacturers’s fortunes have changed for good as Apple is stagnating. Both Nokia and RIMM have staged a smart recovery in recent months from their respective lows.

The recovery is nothing short of a miracle for these companies as they were written off by most analysts amid the assault of industry biggies. While Nokia seems to have recovered from the financial debacle and posted its first quarterly profit in many quarters; Chinese firm Lenovo, which burst on the international level by acquiring IBM’s laptop business, is reportedly seeing Research in Motion as a takeover candidate.

These resurrections are indicative that there is still value left in these companies. Apple archrival Google, though not strictly comparable, has also returned to a strong footing. Even though costs related to the acquisition of Motorola Mobility rocked the boat at Google’s latest results, the company surely has plans to make good of the purchase and will be releasing new Motorola devices.

None of these companies present a challenge to Apple as serious as Samsung which is ironically, Apple’s biggest supplier too. Over the medium to long term though, the combined strength of these companies could undercut Apple on the price front.


valuewalk has no position in any stocks mentioned. The Motley Fool recommends Apple. The Motley Fool owns shares of Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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