In the perpetually evolving world of consumer tech, each of Apple's (NASDAQ:AAPL) iPhone updates has been more spectacular than the one that came before.
It's part of the plan, of course. If Apple can continue to refresh its iconic smartphone with bar-raising features, the buzz will attract new buyers and get existing owners to trade in their old iPhones.
Investors haven't really had to worry about what these updates mean for Apple's margins. The "technology gets cheaper over time" adage affords Apple the opportunity to provide more for less. However, what happens if that changes? What will Apple do if the next iPhone costs more to make than the one before? Will Apple have the flexibility to bump its prices higher?
What if this hypothetical situation is real? What if it costs Apple more to make the iPhone 5 than it did last year's iPhone 4S.
At least one analyst feels that it's what is happening right now.
Inflation catches up to Apple
Pacific Crest analyst Andy Hargreaves lowered his price target on Apple earlier this week, arguing that the cost of goods sold on the iPhone 5 is $370, up from his earlier estimate of $353.
This is obviously material. If Apple is making $17 less on each iPhone, it's going to hose down gross margins, and Hargreaves has them dropping from 40% to 38.8%. This will also naturally eat into Apple's profitability, and he's slashing his bottom-line estimate for the new fiscal year from $53.36 a share to $51.49 a share.
Most handset manufacturers would love to crank out Apple-sized margins, but the question here is: Will Apple have to stomach the seemingly growing costs to piece an iPhone together?
Apple has been frozen at $199 as the entry-level price point for its current model for several years now. Wireless carriers kick in another $350 or so for every iPhone sold, realizing that subsidizing the handset that's hogtied to a two-year contract is worth it.
What would happen if Apple would bump its price on the entry-level iPhone 5to $229, $249, or perhaps even $299? It could even lower the carrier subsidy in a move to get them to start promoting iPhones over what to the carriers are higher-margin Android phones.
Customers probably wouldn't flinch. Apple could still continue to offer the earlier generations of iPhones at free and $99 subsidized price points, covering its bases with thriftier smartphone buyers.
It certainly seems feasible, but don't bet on it happening.
Apple isn't alone
It's easy for Apple to feel cocky these days.
The iPhone 5 is another hit, and a new study this week shows iOS once again overtaking Google's (NASDAQ:GOOGL) Android in this country.
Kantar Worldpanel ComTech estimates that, during the 12 weeks ending in Oct. 28, iOS scored a 48.1% domestic market share to Android's 46.7% slice.
It won't last. Apple temporarily takes the lead around the time of the annual iPhone updates. It gets smoked the balance of the year since there's never a shortage of new Android devices hitting the market.
However, the battle isn't even close overseas. In countries where carriers don't subsidize smartphones, the iPhone's stiff price tag already limits the reach of Apple's penetration. Even a small price increase would send a dangerous message.
It also doesn't help that the non-Android competition is starting to heat up.
Nokia (NYSE:NOK) shares have been rallying in recent days -- nearly doubling off of its summertime low -- on reports of its Lumia 920 handset selling briskly. That's welcome news for Microsoft (NASDAQ:MSFT) after reportedly paying billions to Nokia to champion Windows Phone as its mobile operating system of choice.
The potential competition outside of the open source Android doesn't end there. Research In Motion (NYSE:BB) has slated a launch for its promising BlackBerry 10 platform for January.
BlackBerry and Windows Phone may seem too distant to matter, but any whiff of a price hike on iOS devices and it's easy to fathom Microsoft, Nokia, and RIM taking advantage of the situation.
Will there come a time for Apple to move up from $199 for subsidized devices? Absolutely. It would simply be catastrophic timing if Apple chose to pass on the component cost increase to consumers at this competitive juncture.