This Is Why Apple Doesn't Worry About iPad Cannibalization

Apple (Nasdaq: AAPL  ) has never worried about cannibalization, and it ain't about to start now. Steve Jobs had famously said, "If we don't cannibalize ourselves, someone else will." Apple has a tendency to disrupt itself without reservation, a habit that has worked out well for it so far. The iPhone has destroyed iPod unit sales, but who can complain?

When the Mac maker unveiled the new iPad Mini starting at the $329 price point, there were concerns that it would primarily eat into sales of the full-sized iPad instead of rival 7-inch devices like Amazon.com's (Nasdaq: AMZN  ) Kindle Fire HD or Google's (Nasdaq: GOOG  ) Nexus 7.

That quandary even had fellow Fool Rick Munarriz concerned, since the iPad Mini is priced $130 higher than other 7-inch models. Of course, the Kindle Fire HD and Nexus 7 sell for nearly no gross margin, something Apple would never do.

A recent teardown and bill of materials, or BOM, estimate from iSuppli shows investors exactly why Apple couldn't care less about iPad cannibalization: the iPad Mini is more profitable.

Be our guest, put our margins to the test
Here's where the supply chain specialist pegs Apple's costs for each of the Wi-Fi only models, while the cellular-equipped variants don't land until later this month.

iPad Mini Model

16 GB

32 GB

64 GB

BOM and manufacturing costs

$188

$204

$235

Retail price

$329

$429

$529

Gross margin

43%

52%

56%

Source: iSuppli via AllThingsD.

Compare those with the Wi-Fi model estimates of the third-generation iPad that was launched in March.

New iPad Model

16 GB

32 GB

64 GB

BOM and manufacturing costs

$316

$333

$366

Retail price

$499

$599

$699

Gross margin

37%

44%

48%

Source: iSuppli.

These are for the third-generation iPad, but the fourth-generation model only saw incremental upgrades, so its BOM should be largely the same. The fourth-generation iPad primarily saw improvements in the processor, camera, international compatibility, and Lightning connector, none of which would add a lot to component costs. The most expensive component, the Retina display and touchscreen assembly, comprises 40% of the entry-level cost, and remained unchanged.

Since the iPad Mini uses older parts (mostly the same ones found in last year's iPad 2), it's much cheaper to manufacture. It uses the same dual-core A5 chip and has the same screen resolution. However, it's a smaller panel being sourced by LG Display (NYSE: LPL  ) , AU Optronics (NYSE: AUO  ) , and Samsung. The display and touchscreen combined cost $80, which is 43% of the entry-level cost.

If prospective buyers of the full-sized iPad opt for the smaller version, you won't hear any complaints out of Apple, since that migration would inevitably boost the iBottom line.

Liar, liar?
On the most recent conference call, CFO Peter Oppenheimer said Apple had priced the iPad Mini aggressively at $329, since the tablet's gross margin is "significantly below the corporate average." For the last fiscal year, Apple saw an overall gross margin of 44%.

Before you start calling Oppenheimer a liar because the entry-level iPad mini carries a gross margin of 43% (hardly "significantly below" 44%), remember that those estimates only account for components and manufacturing. They don't include other costs like software, licensing, royalties, and other expenses that go into product development that Apple may be internally including in its product-specific cost of goods sold.

Besides, comparing it to the corporate average really translates into comparing it to iPhone gross margins, which start at 68% for the iPhone 5. At over half of revenue last year, the iPhone carries disproportionate weight when it comes to gross margins.

Pick an Apple product, any Apple product
Instead of worrying about product cannibalization, Apple continues to simply focus on products. This was Tim Cook's response on the most recent conference call, when asked about cannibalization:

So, no, but the way that we look at this is that we provide a fantastic iPod Touch, we provide an incredible fourth generation iPad and iPad Mini and then iPad 2. Customers will decide which one or two or three or all four that they would like and will buy those and so we've learned over the years not to worry about cannibalization of our own products, it's much better for us to do that than somebody else to do it and the far, far bigger opportunity here are the 80 million to 90 million PCs that are being sold per quarter, there's still over 300 million PCs being bought per year, and I think a great number of those people would be much better of buy an iPad or a Mac, and so that's a much bigger opportunity for Apple, and so instead of being focused on cannibalizing ourselves, and I look at it in much more that it's an enormous incremental opportunity for us and so that's how I look at it.

Apple figures that so long as it keeps pumping out stuff that people want to buy, the results will take care of themselves.

The opportunities that the iPad has in front of it are enormous. We're looking at a major global trend as tablet adoption takes hold, with the iPad being at the forefront. That's exactly why I've put together a bonus report all about the iPad opportunity, which is included in The Motley Fool's new premium Apple research service. Get started by clicking here.


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  • Report this Comment On November 05, 2012, at 7:20 PM, alboy5 wrote:

    Appl is meeting all its milestones, so why do stock analysts downplay it causing downward stock momentum.

    Product lines are being sold out online, people are lining up for their appl whatever. 40% profit margin

    how can this stock be falling.

    Christmas is here and there are no current problems reported. Stock analysts are worried about appl future.

    Appl is ready to explode upwards having opened many new stores in many new countries. The product lines have not lost appeal. The hardware executive has been made the software executive.

    As you can tell from the clever hardware clever software will be on the way. This means appl products will have future clever innovation. This exec was a close friend of Steve Jobs and collaborated in new product lines.

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