The letter to investors, signed by CEO Tim Cook, blames weak iPhone sales in Greater China. Cook believes that China's tepid economic growth and trade tensions with the U.S. led to a decline in retail store traffic in the region. But a closer look at the developments in the Chinese smartphone market indicates that the blame lies with Apple as well.
Apple's "premium" bubble has burst
China's economy grew 6.8% during the first quarter of 2018, but growth slowed down to 6.5% by the third quarter. That was in line with the country's official 2018 growth target.
But despite this economic slowdown, shipments of smartphones made by Chinese OEMs (original equipment manufacturers) increased. Vivo, OPPO, and Huawei saw jumps of 14%, 7.5%, and 6.6%, respectively, in their shipments during the third quarter of 2018 as compared to the second quarter.
Apple, on the other hand, witnessed a 10% decline in shipments over the same period. Clearly, the iPhone maker is losing market share in China to local OEMs, who are not only capitalizing on the increased preference for domestically produced products in light of the trade tensions with the U.S., but are also coming up with innovative devices at competitive prices.
Huawei has displaced Apple as the second-largest smartphone company globally, thanks to its strategy of offering feature-packed premium phones at lower price points when compared to Apple's lineup.
It makes sense to conclude that Apple's strategy of boosting iPhone prices has backfired and the company has priced itself out of this market.
It's not just a China problem
In fact, Apple's problems run deeper than just the Chinese market, which is the company's third-largest source of revenue with 18% of the total top line. Cook has admitted that the upgrade cycle to new iPhones in some developed markets has slowed down.
In India, recent reports suggest that iPhone sales in the country fell 50% in 2018 to just 1.6 million to 1.7 million units. That's a stark contrast from 2017, when the company's shipments in this lucrative smartphone market had doubled.
Cook can't make the excuse of slowing economic growth as the reason behind this poor performance in India because the Indian government expects the economy to grow at 7.2% in the fiscal year that ends in March, up from the 6.7% growth clocked in the previous fiscal year.
Sales trends in that market clearly indicate that consumers prefer lower-priced but powerful phones from the likes of OnePlus, which shipped 500,000 units in India during the final quarter of 2018 per Counterpoint Research. Apple, on the other hand, shipped 400,000 units during the same quarter.
In all, Apple's strategy of boosting iPhone prices is backfiring, which is why it might be high time for Cook to become more flexible with pricing.
The possible solution
It would be out of character for Apple to reduce iPhone prices at a time when the company is looking to offset unit declines with higher average selling prices (ASPs). But that's probably what the company needs to do if it wants to grow its user base and push up sales of ancillary services.
There's evidence suggesting the same. Apple's sales in price-conscious India had increased in the 2017 fiscal year once the company started manufacturing older models in the country. Models such as the iPhone SE and the iPhone 6S were in strong demand thanks to reduced pricing, and that boosted Apple's sales in that market substantially.
But Apple eventually failed to deliver in India now that customers have woken up to the fact that it might be a better idea to buy a new-generation phone from one of the Chinese suppliers instead of doling out money for an older Apple device that costs nearly the same amount.
So either Apple needs to lower its prices to defend its market share or it needs to come up with well-priced and well-equipped devices that can compete effectively. Some might argue that such a strategy would take a toll on the company's margins, but then, weak iPhone sales mean that Apple might find it difficult to sustain the impressive growth of its services business.
In all, Tim Cook needs to bring new users into the iPhone ecosystem, and that means making the devices more accessible to users in both emerging and developed markets. At the same time, the company needs to ensure that its current users don't move away instead of upgrading to another iPhone.
If Cook doesn't take corrective steps soon enough, Apple's sales will continue heading in the wrong direction.
Harsh Chauhan has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Apple. The Motley Fool has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool has a disclosure policy.