A Silver Lining to Apple’s Low Market Share

While some worry that Apple's smartphone market share is too low, there's more to the story than that.

Feb 4, 2014 at 1:30PM

One of Apple's (NASDAQ:AAPL) biggest criticisms is that the company continues to lose market share to lower-end handsets. What's interesting is that Apple is still growing its unit volume shipments of both iPhone and iPad quite nicely, although below the growth of the smartphone market in general. While this would initially seem like a clear negative, it's important to understand that there is a real silver lining here.

Immense profitability, even with relatively small share
Even with shrinking market share, Apple generated roughly $17.4 billion in operating income in Q1, with the vast majority driven by the iPhone and iPad. Note that Samsung (NASDAQOTH:SSNLF), which sells roughly twice as many phones as Apple, generated "only" $22.9 billion in operating profit from its mobile devices division in the last fiscal year. Apple still enjoys the bulk of the profit share.

It's interesting to note that Apple has been able to generate this profitability by sticking to the mainstream high-end portion of the market, while Samsung has generated this profitability by a pretty broad assault from top to bottom. Also note that Apple has been able to do so even without a "larger" iPhone to directly compete against the Galaxy S4/Galaxy Note 3. With a larger iPhone, Apple could conceivably take an even larger bite of the profit pie.

The low end likely to become a bloodbath
The risk for Samsung (which makes much of its profitability from the low end) is that the barrier to entry is fairly low, and there is a lot of profit that's ripe to be split up. While the same argument could be made for Apple at the high end, it's already clear that Apple's brand is exceptionally powerful and that, thanks to its differentiated OS and smart hardware designs, it can maintain pricing power.

Can Samsung, in competing against the likes of Lenovo (NASDAQOTH:LNVGY), maintain this level of profitability without a differentiated software experience, and while the company continues to play the "specs game" in which margins and battery life are sacrificed for bigger and better displays and gratuitous (and power-guzzling) processors? Anything Samsung can do, Lenovo (and conceivably others) can do, too -- and they don't need Samsung's margins to turn a tidy profit.

Foolish takeaway
Apple's value is obviously in its products, but a key part of that is iOS and its app ecosystem. Another big aspect is that its brand is powerful and its customer base is likely far more affluent/price-insensitive than those buying Samsung products. As long as Apple keeps delivering, it will be able to command -- as it has done for years -- the lion's share of the smartphone pie.

While this isn't enough to drive a huge upside, it is enough to keep the Apple profit machine chugging along until it can introduce the "next big thing." Only Tim Cook and his teams in Cupertino know exactly what that will be, but that won't stop investors, industry analysts, and customers from speculating.

Get in early on the next revolutionary tech device
If you thought the iPod, the iPhone, and the iPad were amazing, just wait until you see this. One hundred of Apple's top engineers are busy building one in a secret lab. And an ABI Research report predicts 485 million of them could be sold over the next decade. But you can invest in it right now... for just a fraction of the price of AAPL stock. Click here to get the full story in this eye-opening new report.

Ashraf Eassa has no position in any stocks mentioned. The Motley Fool recommends Apple. The Motley Fool owns shares of Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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