Apple Inc. Is Gobbling Up The World's Smartphone Profits

Apple's (AAPL +0.00%) iPhones claimed 92% of all smartphone profits worldwide during the first quarter, up from 65% a year earlier, according to Canaccord Genuity analyst Mike Walkley. Apple's whopping share of the bottom line is incredible, since iPhones only accounted for 18% of the smartphone market during the first quarter, according to IDC.

Source: Pixabay.

Samsung (NASDAQOTH: SSNLF), which had a market share of 24.6% during the first quarter, only claimed 15% of the bottom line. Samsung and Apple's combined share of the profits exceed 100% because many smartphone makers broke even or reported losses during the first quarter. Back in 2012, Samsung and Apple split industry profits roughly 50-50, but these recent figures indicate that the former has ceded the high-end market to the latter.

Why iPhones are so profitable
Apple has a knack for selling mid-range hardware at premium prices. IHS estimates that the 64GB iPhone 6 Plus, which costs $849 unlocked, costs just $240 to manufacture. It also found that the comparable 64GB Galaxy S6 Edge, which costs $800 unlocked, costs $290 to manufacture. The difference is astounding -- Apple can manufacture a device for $50 less than Samsung, yet sell it for nearly $50 more. Samsung also has a record of spending more on marketing than Apple, which widens that gap further.

Source: Apple.

Apple can sell cheaper hardware at higher prices because it is considered a luxury brand. In 2013, a Coolbrands survey in Britain revealed that Apple was the top luxury brand in the country, crushing classic brands like Aston Martin and Rolex. Last year, Hurun Research Institute revealed that Apple was also the top luxury brand in China, toppling brands like Cartier, Louis Vuitton, and Hermes. Apple relies heavily on that snob appeal to generate big profits in newly affluent countries like China.

Apple subsequently locks in those users with a closed ecosystem. Once a consumer purchases an iPhone, they must stick with iOS or lose all their digital purchases. That closed ecosystem also enhances the premium appeal of iPhones -- buying one grants a user entrance to an "exclusive" club isolated from other smartphones.

Why Android phones are less profitable
Android smartphone makers, on the other hand, haven't really evolved into luxury brands. Samsung, LG, Sony (SNE 1.73%), and HTC (NASDAQOTH: HTCCY) sell pricier Android devices, but they aren't considered "luxury" items like iPhones. According to Strategy Analytics, the average price of an Android device was just $185 last year, compared to $624 for iPhones.

Meanwhile, competitors like Xiaomi, Huawei, and Lenovo (LNVGY +1.54%) are flooding the market with cheap Android devices loaded with high-end hardware. These companies depend on strong sales volume to offset their paper thin margins. Chipmakers like Qualcomm (QCOM +0.20%), MediaTek, and Rockchip are also selling "turnkey" smartphone designs to smaller companies, which help them launch cheap new smartphones in just a few weeks.

Xiaomi's Mi 4i.Source: Xiaomi.

As a result, there are now roughly 1,000 companies making smartphones worldwide. Mutual competition is fueling a race to the bottom among Android device makers, which means that the market for "premium" Android devices could soon vanish. This comparison between Samsung's Galaxy S6 and its cheaper rivals shows how tough the current market is.

Source: GSMArena, industry websites.

The future looks bleak for Android handset makers
To compete against those low-margin rivals, Samsung is selling more mid-range devices, like the Galaxy J and A series, to remain competitive. HTC also started selling more mid-range devices, like the One Mini 2 and Desire One, last year. Sony declared that it intends to sell fewer phones and focus on profitability instead, suggesting that it plans to sell fewer devices at premium prices.

Those players are putting on brave faces, but the numbers tell a bleak story. Samsung recently warned that it would post its seventh consecutive quarterly loss in the second quarter, likely due to weaker-than-expected sales of the S6. In July, HTC reported its biggest quarterly loss in history, due to poor handset sales all around. Last November, Sony told investors that its plans to make its smartphone business profitable could cause annual sales to drop "by 20% to 30%."

Apple wins, everyone else loses
Apple's brand appeal and its closed ecosystem protect it from the commoditized chaos of the Android market. As a result, it can keep selling mid-range hardware at premium prices. As prices continue plunging across the Android market, margins will contract further, and Apple's share of the industry profits should continue to rise.