Apple: Higher Margins Mean Reduced Exposure in Emerging Markets

TheStreet.com

NEW YORK (TheStreet) -- While most of Apple's (APPL) reputation is centered on the fact that the company holds a strong position as one of the greatest innovators in recent memory, a good deal of attention has also been paid to the high margin levels associated with its products.

The results of this strategy are clear: Higher margins (and prices) mean that fewer items are sold, and critical demographics in emerging markets are forced to find cheaper alternatives (or even outright copies) made by other companies.

But the key question for Apple is whether or not these scenarios have prevented the company from achieving stronger profits, and sacrificed important markets to its competitors. At this stage, there appears to be a growing sense that Apple's reluctance to alter its strategies has limited profit growth and put the company in a vulnerable position when compared to companies with a more flexible approach.

Missed Opportunities

Thus far, many wireless carriers in Asia have been unwilling to accept Apple's stringent partnership conditions. This essentially means that since the end of 2011, Apple has had only 11 wireless-service providers sign on to sell the iPhone. This also means that there could be as many as 2.8 million potential smart phone customers that are unable to buy the iPhone as part of a service plan.

Currently, Apple has about 240 wireless carriers that sell its mobile devices, with key holdouts seen in countries like China, India, Russia, and Japan. As a comparative example, Samsung (Apple's biggest competitor) is able to sell its products to nearly all of the 800 wireless-service providers around the world. At China Mobile (CHL) alone, Apple is losing out on roughly 700 million potential customers because its devices are not compatible with the China Mobile networks. Clearly, this is something Apple wants (and needs) to change. But will they be able to bend on the time-tested market approach that has brought so much success to the company in the last decade?


Possible Changes in Strategy

Recent stories hinting that Apple has considered producing a cheaper version of the iPhone would suggest that the answer to this question is "yes." But changing the company's flagship product to structure an agreement with companies like China Mobile would likely not be enough to complete a partnership. Reported points of contention from China Mobile have mostly centered on the subsidy Apple will require China Mobile to dish out before handsets can be distributed to customers.

This is not, however, a complaint that has been voiced only by companies in China. Apple generally requires wireless providers to contribute large subsidies when each handheld device is sold. This significantly reduces the costs paid by the consumer, and locks that consumer into a long-term agreement with both companies. The only problem is that this is not a common arrangement in many areas of the world, where phones are purchased outright by the consumer and those purchase costs are not directly tied to a monthly service plan.

In these cases, Apple's contractual requirements fail to match the prevailing tendencies seen in the local market, and those businesses are the ones that have shown the most reluctance in committing to partnerships with the iPhone maker. Further limitations are seen when Apple requires even small companies to commit to high volume sales orders. In emerging markets, it can be difficult to persuade smaller businesses to take on the added risk for a product that is generally thought to be out of the financial reach of many local customers.


As Apple continues to lose its hold on the central market position it had at the height of the iPhone frenzy, some difficult decisions will need to be made. As with any business choice, profits are king, but in order to maximize Apple's potential in this area, the company might need to change its approach from what might have worked in the past. Allowing margins to fall would mean that sales figures would rise and that the company would gain new exposure in emerging markets.

Whether or not this will result in improved profits, however, will be the main question. Either way, it is clear that Apple is in a position where new strategies must be considered, and, at this stage, margin cutbacks look like the best place to start.

At the time of publication the author held no positions in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

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