Poor Apple iPhone 5c Sales May Spell Trouble

24/7 Wall St.

Display Search, which is a worldwide leader in global market research and consulting, says that Apple Inc. (AAPL) has cut back iPhone 5c orders by 35%. Many on Wall Street thought that the lower cost profile 5c was Apple's ticket into the low-cost smartphone arena and would ignite a migration from other low-end manufacturers. The question for investors remains the same. Does Apple need the 5c to succeed and to help expand earnings growth and margins? While the market already has known about the production cuts from NPD data for the 5c and increased production cuts for the 5s, there may be more to the Display Search call than meets the eye.

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Display Search analysts Tina Teng and Shawn Lee attributed the 5c's disappointing performance to two factors. First, media and analyst speculation that the 5c would be a low-cost phone disappointed consumers looking for a cheap iPhone. When all is said and done, if consumers do not sign up for a multiyear carrier plan, the phone is still reasonably expensive. Even with a two-year contract at Sprint Corp. (NYSE: S) or Verizon Communications Inc. (VZ), an Apple 5c 32 gigabyte (GB) costs $199.99 at big-box retailer like Target Corp. (TGT).

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When iPhone shoppers take a step down to the 16 GB model at retailer Best Buy Co. Inc. (BBY), the price does decline to $99. However, that still requires the buyer to sign on for or extend their contract at AT&T Inc. (NYSE: T) for two years. While considerably less than the 32 GB model, the long carrier contract is something that may be getting push back from the lower end customer. Monthly carrier contracts for smartphones with data plans can run well over $75 per month.

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The fact that the iPhone 5c is nearly identical to the iPhone 5, and is not cheap, also disappointed some consumers apparently. The market's expectation of what the iPhone 5c would be was very different from how Apple wants to position itself. The Display Search analysts noted in their report that "It was not Apple's intention to develop a product targeting the 'low-cost' smartphone segment."

One other huge issue for sales was that the iPhone 5c launched in China during Golden Week, the first week in October, when Chinese carriers were aggressively gaining new subscribers through device subsidies. The carriers, however, did not allocate higher subsidies on the 5c compared to other brands, deflating sales expectations because the 5c was not priced at the much lower price that the market was expecting. This was one of the reasons that prompted the 35% cutback in orders from suppliers.

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There is good news for Apple investors, and for the suppliers who count on Apple for business. At the end of September, Verizon Wireless was reporting supply constraints on the Apple iPhone 5s. In fact, when Verizon posted earnings last week, the company reported iPhone sales rose despite the supply constraints. The number of iPhones activated hit 3.88 million, up from the second quarter's 3.83 million and the year-ago 3.1 million. We recently wrote about the top suppliers to Apple and how they may be top stocks to buy now.

The strategy of releasing two new phones seemed to pay dividends when Apple announced it had sold 9 million new iPhones the first weekend, blowing past all expectations and the previous record of 5 million, set a year ago. However, Apple counts a phone as sold when it is delivered to a partner such as Best Buy or AT&T Wireless. Some analysts estimated that 2 million to 3.5 million of those 9 million iPhones were not sold to customers that first weekend and were sitting at retail stores. After the first weekend, the iPhone 5s became hard to find in stores, and Apple's website continues to project several weeks to deliver one. By contrast, the 5c has remained widely available, with the website offering to ship one in 24 hours.

Wal-Mart Stores Inc. (WMT) and Best Buy have started to make the iPhone 5c almost a loss leader, as they have offered various discounts or gift cards that pushed the price as low as $45 with a two-year contract. This may help pull in the holiday traffic when the Christmas selling season gets in full swing next month. The strong sales and the demand for the 5s probably will show up when Apple reports third-quarter earnings after the market closes next Monday.

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There may just be one more problem issue for Tim Cook to deal with.

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