Apple’s Margins Continue Their Reign in the iPad Air

iPad Air. Source: Apple.

Apple's (NASDAQ: AAPL  ) profit margins are the envy of the industry. But will technological innovation spark higher costs? Apparently, that's a flawed way of thinking. Apple's innovation in the iPad Air is more than meets the eye. Sure, it's sleeker and faster than its predecessors. But in making the tablet better for the consumer, Apple was also able to significantly cut down on the iPad Air's costs, according to research firm IHS (via AllThingsD).

Massive margins
Not including related overhead costs related to product development (like research and development, and marketing, and distribution), Apple's boasts a whopping 45% gross margin for the entry-level iPad Air. As the models become progressively more expensive, margins improve; Apple gets all the way up to a 61% gross margin for its maxed-out 128-gigabyte LTE version, according to IHS.

These margins were made possible by a 13% less expensive total component and related manufacturing costs for the iPad Air compared to the third-generation iPad (the last full-sized iPad IHS analyzed). And considering that the iPad Air display and touchscreen component costs -- totaling $130 -- are significantly higher than the third-generation iPad, it's impressive that Apple was still able to cut total costs so considerably -- down to $274 for the entry-level model from $316 for the third-generation iPad.

Where did the costs savings come from?
IHS' Andrew Rassweiler points to several areas:

LED lighting. Thanks to a thin layer of optical film to distribute light across the display (and possibly brighter LED lights), Apple was able to reduce total LED lights from 84 in the third-generation iPad to just 36 in the iPad Air. Fewer LED lights not only cuts down the cost, but it also cuts down on the weight and the power required.

Common LTE support. Thanks to a single combination of LTE chips across all U.S. models, Apple is able to reduce the variation of models produced. "One single model of the iPad Air is able to work with all U.S. wireless carriers," explained Rassweiler.

Less expensive processor. Apple's A7 system-on-a-chip costs Apple an estimated $18 compared to an estimated $23 for Apple's A5 18 months ago.

Addressing a business issue
As year-over-year revenue growth rates remain positive, Apple continues to suffer from gross profit margin declines, year over year. It's these suffering year-over-year comparisons, or comps, that have been dragging on Apple's bottom line. That said, lower component costs on Apple's flagship tablet in its second-largest business segment is a noteworthy achievement toward the company's efforts to improve the its gross profit margin.

Source: Data retrieved from SEC filings.

Going into Q1, Apple has guided for its negative gross profit margin comps to continue to narrow, getting closer to positive comps. Is the iPad one of the contributors to this development? It's likely.

Fortunately, technological innovation doesn't always lead to higher costs. Perhaps Apple's monstrous gross profit margins are more sustainable than critics realize. Not only does the recent trend of profit margins bottoming out seem to support this notion, but declining component costs in its flagship products also make a solid case for the longevity of Apple's scrumptious margins.

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