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Why China Mobile Deal Is a Game Changer for Apple

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After years of rumors and Tim Cook's two business trips to China earlier this year, the world's largest carrier, China Mobile (NYSE: CHL  ) , may have just signed a long-awaited deal with Apple (NASDAQ: AAPL  ) , according to the Wall Street Journal. The rollout of the iPhone on China Mobile's network is expected around Dec. 18, coinciding with the debut of the 4G LTE service in China.

This deal could be the best thing to happen to Apple shareholders after the company's announcement to spend $45 billion over three years in dividends and share repurchases, as it would provide Apple with potential access to more than 700 million customers in the second-largest economy. This market has more than doubled in size in the past two years, and still has a low penetration rate.

Considering the enormous size and attractive growth potential of China, the deal impact on Apple's top line could be astonishing, partially offsetting the negative impact that Samsung's (NASDAQOTH: SSNLF  ) expansion had on Apple's revenue. Amit Daryanani of RBC Capital Markets, for example, projects Apple will see an additional $9 billion-$10 billion in additional annual revenue from this deal, which would raise earnings per share by $3. 

Apple and China
It's no secret China loves mobile, and in particular, Apple smartphones. Last year, the company sold more than two million iPhone 5 units in China in the first three days after the launch. More recently, after less than one day on sale, the gold iPhone 5s immediately went out of stock in Asia due to overwhelming sales.

However, despite the enormous love for Apple's brand among Chinese consumers, the company's market share in China has decreased from 7.1% to 4.2% in the past two years, mainly due to Apple's high pricing strategy. At the same time, Samsung and Xiaomi devices have increased their share, with the Korean tech giant controlling as much as 21% of the market, according to data prepared by research firm Canalys.

Demand for iPhones set to increase
The China Mobile deal could make iPhones more affordable, as carriers tend to subsidize the smartphone device to promote their two-year mobile contracts. Likewise, Apple may launch a China Mobile-compatible iPhone soon, based on Qualcomm's latest baseband chipsets, which allow smartphones to be compatible with both the old 3G network and new LTE technology.

Finally, as China continues delivering solid economic growth for the next decade, its upper middle class segment is set to expand very quickly, allowing more people to afford iPhones in the mid-run. McKinsey forecasts that the upper middle class will grow to 54% of China's total urban population by 2022. Given Apple's strength in this economic segment, the company's decision to "prepare the market" in advance by establishing a strategic partnership with China Mobile looks very promising.

Given these factors, Apple is very likely to enjoy a solid increase in demand for iPhones in China. Assuming the company is able to protect its 33% operating margin, the deal could bring billions of dollars in additional operating profit, and help Apple beat the Street consensus next quarter.

My Foolish takeaway
Samsung, which uses an aggressive pricing strategy and has plenty of deals and partnerships with carriers around the world, has about four times more smartphone market share than Apple in China, the world's largest smartphone market after the U.S. To capture share without hurting its traditionally high operating margin, Apple needed a deal with China Mobile, the world's largest carrier, that would allow more consumers to afford iPhones via subsidies. This deal, which may have just materialized, could be the turning point of Apple's business in China.

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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On December 09, 2013, at 10:45 PM, twolf2919 wrote:

    "McKinsey forecasts that the upper middle class will grow to 54% of China's total urban population by 2022" - that's not that great an increase over 8 years - what around 7% per year? If AAPL increases its sales into that segment at the same rate, it's hardly much to write home about.

  • Report this Comment On December 10, 2013, at 12:14 AM, dwilh51183 wrote:


  • Report this Comment On December 10, 2013, at 2:16 AM, johnestromjr wrote:

    "Apple may launch a China Mobile-compatible iPhone soon,"

    Huh? That was why Apple designed and is producing the 5C. The 5C has a dual chip so that it's compatible with both the 3G TD SCDMA and the 4G LTE systems. I think the 5S also works on both systems.

  • Report this Comment On December 10, 2013, at 10:31 AM, BioBat wrote:

    twof3919, you do realize that 54% growth represents a population that will be twice that of North America, right?

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