Why Apple, Inc. Should Thank T-Mobile

iPhone 5s. Source: Apple.

For the longest time, there was a justified perception that Apple (NASDAQ: AAPL  ) relied heavily on carrier subsidies. Anytime there was talk about subsidy reductions, Apple shares would suffer for it. That's largely because consumers have mostly been unwilling to pay full price for smartphones up until recently, and subsidies helped mask Apple's premium pricing. Sticker shock can be a powerful thing.

With T-Mobile (NYSE: TMUS  ) catalyzing a widespread shift away from subsidies, Apple actually stands to benefit. Wait, what?

Quitting is hard to do
The important thing is that carriers are not just taking away subsidies cold turkey. Like any addiction, calling it quits can be a hard thing to do without an alternative fix. Instead, T-Mobile was the first to introduce installment plans to replace subsidies. Every other major wireless carrier has since introduced similar programs. The net result to a consumer's total monthly bill was fairly minor, but now consumers have greater transparency into what they're paying for.

Unmasking retail prices theoretically risked making consumers more price sensitive. But in practice, consumers have become less price sensitive because installment plans allow consumers to spread out the cost differential over longer periods of time. Under the subsidy model where the carrier's outlay is fixed, upgrading to a pricier model results in higher upfront costs.

A JUMP of faith
On top of installment plans, the carriers now offer early upgrade programs that allow more flexibility. The industry is changing, and Tim Cook has take note:

In terms of the installment plans that you mentioned in the US relative to iPhone, there are a lot of different models that are being tried in the US, and throughout the world. And actually last quarter, as we estimated, and this is subject to the estimating error, but we're estimating that less in one out of four iPhones were sold on a traditional subsidy plan. And so that number is markedly different than it would've been two years ago.

The installment plans that you're speaking about which gives the customer the right to upgrade fast, or faster than a usual two-year cycle, we think that that plays to our customer base in a large way. So that makes us incredibly bullish that customers on those plans would be very likely to upgrade when we announce a new product.

Apple's data suggests that less than 25% of iPhones sold today are now using the subsidy model. That's a complete sea change in an industry that has used the subsidy model for more than a decade.

Of all smartphone vendors, Apple's customers are easily the most loyal and most anxious to buy the Mac maker's latest and greatest. It's true that many of the early upgrade programs aren't financially advantageous to consumers, which is partially why carriers offer them in the first place.

For instance, T-Mobile JUMP requires a $10 per month subscription fee (JUMP includes device insurance). JUMP initially required a 6-month waiting period before upgrade eligibility, but eliminated that requirement earlier this year. The new catch is that T-Mobile will only forgive half of the device's cost when you trade the device in.

Just bought a $600 phone and want to upgrade 3 months later? T-Mobile is effectively buying that phone off you for $300, and will likely resell it for a profit. You're on the hook for whatever difference you owe, but then you're free to upgrade to a new phone. Remember, you're also paying T-Mobile $10 per month for this privilege. Realistically, T-Mobile expects people to upgrade once per year.

But what these programs may lack in financial pragmatism, they make up for in convenience. Consumers have a long history of placing high value on convenience. These programs do make it much easier to upgrade annually, even if there is a cost differential relative to having to sell your phone on eBay yourself to squeeze out an extra $50.

If Tim Cook is bullish that the net result is faster iPhone upgrade cycles, then I believe him.

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Read/Post Comments (3) | Recommend This Article (3)

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 July 28, 2014, at 10:18 AM, aardman wrote:

    It is a measure of the innumeracy plaguing the nation that a lot of people, and disturbingly, a lot of tech journalists, had a hard time understanding the implication and advantages of T-Mobile's installment plan. T-Mobile basically revealed that the 'upgrade' you get from AT&T and Verizon are not free or discounted and that in fact, if you don't upgrade at the earliest instance allowable, you are gifting said carriers with a perpetual installment payment that exceeds the cost of the phone you got from them.

  • Report this Comment On July 28, 2014, at 2:54 PM, VernDozier wrote:

    If you bring your 2-year old iPhone into Apple, they'll only give you $80 off a something new.

    The Apple Reps seem to be thinking they're doing you a favor, but remember- this *is* apple.

    $80 basically covers the tax you'd pay on a new phone. You can find a better deal elsewhere.

  • Report this Comment On July 30, 2014, at 11:23 AM, TangoXray7 wrote:

    Upgrading your phone every year is a social disease not unlike syphilis. I bought my first cell phone in 2001, I still use it and it works just fine. I dial a number, it rings, the person I want to talk with answers. The whole process works in reverse. Wow.

    I can't play Angry Birds on my phone. I've NEVER played Angry Birds. I don't watch movies on my phone. I don't send eMail from my phone. I rarely do complex statistical regression models on my phone. I don't need to wear a belt so my pants won't fall off because my phone is in my pocket.

    When I need a computer, I bring one with me. This isn't rocket science.

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Evan Niu

Evan is a Senior Technology Specialist at The Motley Fool. He was previously a Senior Trading Specialist at a major discount broker. Evan graduated from the University of Texas at Austin, and is a CFA charterholder.

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